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H.R. 1578, REAL ESTATE INVESTMENT TRUSTS

[REITS]: CAN THEY IMPROVE THE THRIFT SAVINGS PLAN?

HEARING

BEFORE THE

SUBCOMMITTEE ON THE FEDERAL WORKFORCE

AND AGENCY ORGANIZATION

OF THE

COMMITTEE ON

GOVERNMENT REFORM

HOUSE OF REPRESENTATIVES

ONE HUNDRED NINTH CONGRESS

FIRST SESSION

ON

H.R. 1578

TO AMEND TITLE 5, UNITED STATES CODE, TO PROVIDE FOR A REAL

ESTATE STOCK INDEX INVESTMENT OPTION UNDER THE THRIFT SAVINGS PLAN

APRIL 19, 2005

Serial No. 109–79

Printed for the use of the Committee on Government Reform

(

Available via the World Wide Web: http://www.gpoaccess.gov/congress/index.html

http://www.house.gov/reform

(II)

COMMITTEE ON GOVERNMENT REFORM

TOM DAVIS, Virginia, Chairman

CHRISTOPHER SHAYS, Connecticut

DAN BURTON, Indiana

ILEANA ROS-LEHTINEN, Florida

JOHN M. MCHUGH, New York

JOHN L. MICA, Florida

GIL GUTKNECHT, Minnesota

MARK E. SOUDER, Indiana

STEVEN C. LATOURETTE, Ohio

TODD RUSSELL PLATTS, Pennsylvania

CHRIS CANNON, Utah

JOHN J. DUNCAN, JR., Tennessee

CANDICE S. MILLER, Michigan

MICHAEL R. TURNER, Ohio

DARRELL E. ISSA, California

GINNY BROWN-WAITE, Florida

JON C. PORTER, Nevada

KENNY MARCHANT, Texas

LYNN A. WESTMORELAND, Georgia

PATRICK T. MCHENRY, North Carolina

CHARLES W. DENT, Pennsylvania

VIRGINIA FOXX, North Carolina

——— ———

HENRY A. WAXMAN, California

TOM LANTOS, California

MAJOR R. OWENS, New York

EDOLPHUS TOWNS, New York

PAUL E. KANJORSKI, Pennsylvania

CAROLYN B. MALONEY, New York

ELIJAH E. CUMMINGS, Maryland

DENNIS J. KUCINICH, Ohio

DANNY K. DAVIS, Illinois

WM. LACY CLAY, Missouri

DIANE E. WATSON, California

STEPHEN F. LYNCH, Massachusetts

CHRIS VAN HOLLEN, Maryland

LINDA T. SANCHEZ, California

C.A. DUTCH RUPPERSBERGER, Maryland

BRIAN HIGGINS, New York

ELEANOR HOLMES NORTON, District of

Columbia

———

BERNARD SANDERS, Vermont

(Independent)

MELISSA WOJCIAK, Staff Director

DAVID MARIN, Deputy Staff Director/Communications Director

ROB BORDEN, Parliamentarian

TERESA AUSTIN, Chief Clerk

PHIL BARNETT, Minority Chief of Staff/Chief Counsel

SUBCOMMITTEE ON THE FEDERAL WORKFORCE AND AGENCY ORGANIZATION

JON C. PORTER, Nevada, Chairman

JOHN L. MICA, Florida

TOM DAVIS, Virginia

DARRELL E. ISSA, California

KENNY MARCHANT, Texas

PATRICK T. MCHENRY, North Carolina

——— ———

DANNY K. DAVIS, Illinois

MAJOR R. OWENS, New York

ELEANOR HOLMES NORTON, District of

Columbia

ELIJAH E. CUMMINGS, Maryland

CHRIS VAN HOLLEN, Maryland

EX OFFICIO

HENRY A. WAXMAN, CALIFORNIA

RON MARTINSON, Staff Director

CHRIS BARKLEY, Professional Staff Member

REID VOSS, Clerk

MARK STEPHENSON, Minority Professional Staff Member

(III)

C O N T E N T S

Page

Hearing held on April 19, 2005 .............................................................................. 1

Text of H.R. 1578 ..................................................................................................... 6

Statement of:

Foley, Hon. Mark, a Representative in Congress from the State of Florida, Co-Chair of the House Real Estate Caucus; and Hon. Richard

E. Neal, a Representative in Congress from the State of Massachusetts,

Co-Chair of the House Real Estate Caucus ................................................ 21

Foley, Hon. Mark ....................................................................................... 21

Neal, Hon. Richard E. ............................................................................... 23

Saul, Andrew M., chairman, Federal Retirement Thrift Investment

Board; and Gary A. Amelio, executive director, Federal Retirement

Thrift Investment Board .............................................................................. 28

Amelio, Gary A. ......................................................................................... 36

Saul, Andrew M. ........................................................................................ 28

Wechsler, Steven, president and CEO, National Association of Real Estate Investment Trusts; Dr. Roger Ibbotson, chairman, Ibbotson Associates, professor of finance, Yale University; and Amy Schioldager, managing director, head of U.S. indexing products, Barclays Global Investors ................................................................................................................. 54

Schioldager, Amy ....................................................................................... 96

Wechsler, Steven ....................................................................................... 54

Letters, statements, etc., submitted for the record by:

Amelio, Gary A., executive director, Federal Retirement Thrift Investment Board, prepared statement of ............................................................ 38

Cummings, Hon. Elijah E., a Representative in Congress from the State

of Maryland, prepared statement of ............................................................ 113

Davis, Hon. Danny K., a Representative in Congress from the State

of Illinois, prepared statement of ................................................................ 11

Ibbotson, Dr. Roger, chairman, Ibbotson Associates, professor of finance,

Yale University, prepared statement of ...................................................... 86

Neal, Hon. Richard E., a Representative in Congress from the State

of Massachusetts, Co-Chair of the House Real Estate Caucus, prepared

statement of ................................................................................................... 24

Porter, Hon. Jon C., a Representative in Congress from the State of

Nevada, prepared statement of .................................................................... 4

Saul, Andrew M., chairman, Federal Retirement Thrift Investment

Board, prepared statement of ...................................................................... 31

Schioldager, Amy, managing director, head of U.S. indexing products,

Barclays Global Investors, prepared statement of ..................................... 98

Wechsler, Steven, president and CEO, National Association of Real Estate Investment Trusts, prepared statement of ......................................... 56

(1)

H.R. 1578, REAL ESTATE INVESTMENT TRUSTS

[REITS]: CAN THEY IMPROVE THE THRIFT

SAVINGS PLAN?

TUESDAY, APRIL 19, 2005

HOUSE OF REPRESENTATIVES,

SUBCOMMITTEE ON FEDERAL WORKFORCE AND AGENCY

ORGANIZATION,

COMMITTEE ON GOVERNMENT REFORM,

Washington, DC.

The subcommittee met, pursuant to notice, at 2:02 p.m., in room

2154, Rayburn House Office Building, Hon. Jon C. Porter (chairman of the subcommittee) presiding.

Present: Representatives Porter, Davis, Cummings, Norton, and

Van Hollen.

Staff present: Ron Martinson, staff director; B. Chad Bungard,

deputy staff director and chief counsel; Chris Barkley and Shannon

Meade, professional staff members; Reid Voss, legislative assistant/

clerk; Patrick Jennings, detail from OPM serving as senior counsel;

Michelle Ash, minority senior legislative counsel; Mark Stephenson

and Tania Shand, minority professional staff members; and Teresa

Coufal, minority assistant clerk.

Mr. PORTER. Usually, when it is this quiet at my house when I

get home, it is usually because the kids have done something

wrong. So let me say welcome, and I know that is not the case. I

thank you all for being here. I would like to bring the meeting to

order. This is a hearing today on the Real Estate Investment

Trusts and whether they can improve the Thrift Savings Plan.

Since we do have a quorum present, we will bring the meeting

to order. Good afternoon. As you know, last Wednesday I, along

with Representative Chris Van Hollen and Representative Tom

Davis, our chairman of the Government Reform Committee, introduced the Real Estate Investment Thrift Savings [REITs] Act, H.R.

1578. As a Member of Congress who represents a good share of

major growth area in real estate in Nevada and Las Vegas, I think

it is very important we look at this issue today, and that is why

we brought the bill forward, as an option as investment for the program.

As you know, there are many other programs, not unlike the

401(k) plans. Federal employees are given choices in handling their

own retirement planning through the Thrift Savings Plan. The

Thrift Savings Plan, however, is lagging behind the private sector

in the amount of options it offers its employees in its defined conVerDate 11-MAY-2000 13:30 Dec 06, 2005 Jkt 000000 PO 00000 Frm 00005 Fmt 6633 Sfmt 6633 D:\DOCS\23944.TXT HGOVREF1 PsN: HGOVREF1
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tribution plan. The TSP offers 5 options; whereas the private sector, in some cases, as an average can have close to 16 options.

What we are talking about today is a simple concept and it is

called diversification. Basic economic principles dictate that investors should not place all of their eggs in one basket, but must

spread their money and risk among different types of assets.

A few years ago, during the tech bubble collapse, many Federal

employees experienced setbacks in their investment portfolios and

did not have the option to invest substantially in REITs. Federal

employees should not be left out in the cold. Adding a Real Estate

Investment Trust fund option to the TSP is the next logical step.

With its resilient earnings and lower volatility, real estate provides

a sound investment over the long haul, such as investment in valuable diversification tools providing the possibility of strong returns

and risk reduction.

The demand for Real Estate Investment Trusts among 401(k) investors has been robust, as they seek to diversify their portfolios.

In response, the Real Estate Investment Trust stocks are increasingly being added as an investment option by the private sector in

their 401(k) plans, including employers such as IBM and General

Motors.

It is no wonder. As this month’s Forbes reports, in the past 5

years, Real Estate Investment Trusts have outperformed the

Standard & Poor’s 500, up 19.1 percent annually from the

Bloomberg Real Estate Investment Trust Index, negative 3.2 percent for the Standard & Poor’s. Moreover, from 2000 to 2003, when

the highest total rate of return on any stock fund in the TSP—the

C, the S, or the I Funds—was 1 percent, the rate of return on the

Real Estate Investment Trusts were near plus 20 percent.

I mention the recent success of the Real Estate Investment

Trusts earnings not to raise expectations that the Fund will

produce this extraordinary result every year. Rather, it shows that

if a Federal employee had invested in a Real Estate Investment

Trust Fund in that period of economic downturn, he or she could

have avoided what for many was a financial disaster right on the

edge of their retirement plan.

I would add that the Thrift Savings Board holds the view that

the Real Estate Investment Trusts are an industry and should be

viewed like energy, technology, and the like. Interestingly,

Barclay’s Global Investors, which administers four of the five TSP

Funds for the TSP Board, will state in their testimony before us

today that the Real Estate Investment Trusts real estate are not

an interest, but rather, an entirely separate asset class.

And while I am on that subject, let me also compliment the TSP

Board for its work. I had a chance to read the backup testimony,

and appreciate the expense ratios and what you have done. Although we may not agree on this issue, let me applaud you for the

work that you are doing. We appreciate it very much.

I truly believe that adding a Real Estate Investment Trust to the

TSP is a step forward in bringing the benefits of diversification to

the TSP and thus enhancing the retirement benefits for all of our

hardworking Federal employees.

With that said, I know that there are differences of opinion, as

I mentioned, on what the TSP should look like. I look forward to

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hearing from all of our witnesses today and thank you for agreeing

to join us.

[The prepared statement of Hon. Jon C. Porter and the text of

H.R. 1578 follow:]

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Mr. PORTER. I would like to now recognize the ranking minority

member of the committee, Mr. Davis. Welcome, Mr. Davis.

Mr. DAVIS. Thank you very much, Mr. Chairman. I appreciate it.

Chairman Porter, members of the committee, we are here to discuss a legislative proposal, H.R. 1578, the Real Estate Investment

Thrift Savings Act. H.R. 1578 would add a Real Estate Investment

Trust to the Thrift Savings Plan. The TSP is a key component of

the Federal Employees’ Retirement System [FERS]. It is a defined

benefit retirement plan similar to the 401(k) plans provided by

many employers in the private sector. The income that a retired

worker receives from the TSP will depend on the balance in his or

her account.

For this reason, I am concerned about the process—how, when,

and why—any investment funds, including REITs, are added to the

TSP. The act that established the TSP specifically states that the

Federal Retirement Thrift Investment Board is to set investment

policies and administer the plan ‘‘solely in the interest of the participants and beneficiaries.’’

Indeed, when the Board last added new funds to the TSP, as fiduciaries and managers of the TSP, the Board studied various investment options and transmitted a legislative proposal to Congress that authorized the addition of the S and I Funds to the TSP.

Representative Connie Morella introduced the legislation, and it

was enacted on September 30, 1995. This is significant because, at

this time, the Board and the Employee Thrift Advisory Council do

not support adding REITs to the TSP, and the Board has not submitted a legislative proposal recommending that REITs be included

in the TSP.

The process by which funds are added to the TSP is important

because it goes to the heart of Congress’ intent when it created the

TSP. In reviewing the legislative history for the establishment of

the TSP, one will find this statement: ‘‘A great deal of concern was

raised about the possibility of political manipulation of large pools

of thrift plan money. This legislation was designed to preclude that

possibility.’’

It goes on to say, ‘‘The committee considered permitting any

qualified institution to offer employee specific investment vehicles.

However, the committee rejected that approach for a number of

reasons. First, there are literally thousands of qualified institutions

who would bombard employees with promotions for their services.

Also, even qualified institutions go bankrupt occasionally and a

substantial portion of an employee’s retirement benefit would be

wiped out. This is in contrast to the diversified fund approach

which could survive a few bankruptcies.’’

It is clear that Congress intended to isolate the TSP from political manipulation by creating the Board and emphasizing a diversified, broad-based indexing fund approach for the TSP. Congress envisioned exactly what is happening today, and I do not think we

should stray too far from the principles Congress laid out in 1986

when the TSP was created.

Given the political realities, however, I strongly recommend that

the Board conduct a comprehensive study of various investment

funds, including REITs, and submit a legislative proposal to ConVerDate 11-MAY-2000 13:30 Dec 06, 2005 Jkt 000000 PO 00000 Frm 00013 Fmt 6633 Sfmt 6633 D:\DOCS\23944.TXT HGOVREF1 PsN: HGOVREF1
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gress recommending what funds, if any, should be added to the

TSP.

Again, I thank you for calling this hearing and look forward to

the witnesses, and I yield back any additional time.

[The prepared statement of Hon. Danny K. Davis follows:]

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Mr. PORTER. Thank you.

Congresswoman, do you have an opening statement?

Ms. NORTON. Mr. Chairman, I am intrigued by this hearing, and

thank you for calling this hearing, because I think it opens up not

only an option, but it opens up the opportunity for members to find

out, for example, why—I think there are good reasons why—this

fund is lacking in the kind of diversification that we find in the private sector. But I need to know why.

I am a big supporter of the TSP. Mr. Chairman, with such a bipartisan bill, I hope you will forgive this partisan note. I would like

us to have more hearings like this about how to encourage employers and employees to promote savings for retirement in the way the

Thrift Savings Plan does, as opposed to yanking it out of Social Security. So I am really for enhancing the plan to the extent that is

consistent with what the Board and the Advisory Board, whose job

it is to sit on top of all this, find to be prudent.

Off the top of my head—and we all have to understand that in

Congress it is literally off of our heads—you say to me invest in

real estate. I said you have me. I am from the school that always

believed that investment in real estate and land was more solid

than the stock market. This shows how much I know. I am also

from the generation that is still a victim of the dot com era—I used

to have a shirt back then—but I do think we all learn that what

looks good in one period may not be as good in another, which is

why the TSP has a reputation for being conservative.

I have to say, Mr. Chairman, I was intrigued by your own opening statement, by what you indicated real estate had done during

these very down years, 2000–2003, while we were down in the

dumps. That is, what I want to know is, what happened to us? I

thought we were supposed to be conservatively invested during

that period, and look at that. The difference that you speak of, 20

percent there, and all of us who were invested in TSP were at 0.1

percent. I don’t know where the conservatism got us in that regard,

because that is where I would have expected us to have done better

precisely because the TSP is, as we all know, run in a conservative

fashion.

So this might be the right thing to do, and, Mr. Chairman, I

think you are doing the right thing, that is to say, having a hearing

before we jump. This Board consists of fiduciaries, including their

executive director, and I asked my staff to find out something

about this Board. I wanted to know if this Board was in any way

political, and they tell me that the members don’t have to be divided by party; they are all appointed by the current President.

The Board is nonpartisan. Of the five Board members, three were

appointed by President Bush, one was recommended by Speaker

Hastert, and the other was recommended by Senator Stevens. They

have staggered terms.

So when this Board tells me go slow, I think we all ought to listen. At the same time, I am concerned if there is less diversification since, again, the standard gospel is that the more diversification the better, of course. There can be a point where diversification, I suppose, counts, but on this matter, whereas my instinct

would be to say why not, I think, Mr. Chairman, that I may be the

conservative and you may be the liberal here, that I would like

21

first to hear from the Board before I tell them to risk my money

in anything.

So I appreciate this hearing, because it allows us to hear from

them and from other witnesses on a very intriguing subject, and

I appreciate that you have called this hearing for that reason.

Mr. PORTER. Thank you very much for the kind comments. I, like

you, am anxious to hear the testimony and have an opportunity to

ask some questions ourselves.

I would like to ask unanimous consent that all Members have 5

legislative days to submit written statements and questions for the

hearing record, and any answers to the written questions provided

by the witnesses also be included in the record. Without objection,

so ordered.

I ask unanimous consent that all exhibits, documents, and other

materials referred to by Members and the witnesses may be included in the hearing record, and that all Members be permitted

to revise and extend their remarks. Without objection, so ordered.

I ask unanimous consent that written statements from IBM and

the Employees’ Thrift Advisory Council be submitted for the record.

They were invited to speak today but were unable to do so. So,

without objection, that is also so ordered.

And it is the practice of the committee to administer the oath to

all witnesses, but we will wait a moment and introduce our first

panel. Good friends, we appreciate your being here.

First, I would like to introduce Mr. Mark Foley, Congressman

from Florida. And with him is Congressman Richard Neal, Representative from Massachusetts. These men are co-chair of the

House Real Estate Caucus.

So I begin with Mr. Foley. You are recognized for 5 minutes.

STATEMENTS OF HON. MARK FOLEY, A REPRESENTATIVE IN

CONGRESS FROM THE STATE OF FLORIDA, CO-CHAIR OF

THE HOUSE REAL ESTATE CAUCUS; AND HON. RICHARD E.

NEAL, A REPRESENTATIVE IN CONGRESS FROM THE STATE

OF MASSACHUSETTS, CO-CHAIR OF THE HOUSE REAL ESTATE CAUCUS

STATEMENT OF HON. MARK FOLEY

Mr. FOLEY. Thank you very much, Mr. Chairman. My fellow colleagues and members of the subcommittee, thank you for inviting

me here today to testify in favor of the Real Estate Investment

Thrift Savings Act ‘‘REITs Act.’’ As co-chairman of the Congressional Real Estate Caucus, I strongly support this effort to bring

the explosive growth potential of the real estate market to over 3

million Federal workers and military personnel that participate in

the Thrift Savings Plan.

Chairman Porter’s bill will increase the investment options available to Federal employees and enhance the retirement security of

the Federal work force. In fact, the success of this option in the

TSP could act as a model for its expansion into private sector employer-sponsored retirement plans.

Real Estate Investment Trusts have a proven record of success,

operating portfolios of investment-grade, income-producing commercial, residential, and industrial real estate. REITs derive a

22

large portion of their value and most of their reliable income from

the rents produced by these tangible assets.

And because REITs pay out virtually all of their income to shareholders, as required by law, their yields are much more impressive

than many of the other investment products. In fact, non-industry

research has shown conclusively that returns from real estate investments are much higher than those from other investments.

More recent research has shown that investment returns from

REITs and the returns from other stocks and bonds make REITs

an attractive addition to an individual investor portfolio as well as

those of institutional investors. As a result, more and more financial experts are recomending that retirement savings be diversified

into stocks, bonds, and real estate.

Until 2001, when the S Fund and the I Fund were added, the

TSP contained only three options: the C, the G, and the F Funds.

All three were considered to be low-risk investment options over

the long term, but the plan was insufficient for proper diversification and so other funds were added. Now is the time to further expand the TSP by adding a REIT fund to those options already

available.

Again, subject to the discretion of the investor, myself included,

I have diversified my account to all current five funds in thrift savings, and I would welcome the chance, personally, to be able to

have a sixth option.

Research by the Federal Retirement Thrift Investment Board,

which administers the Thrift Savings Plan, shows that the number

of investment options in private sector 401(k) plans continues to increase. The Board reported that the percentage of private sector

companies offering 11 or more options to their employees has risen

to nearly 70 percent. On the other hand, the percentage of companies offering five or less options—the TSP currently has five options—has dropped to about 1 percent. This makes the Thrift Savings Plan somewhat out of step with the private sector retirement

plans.

REITs provide the benefit of diversification and have a proven

long-term performance. The old adage of don’t place all of your eggs

in one basket certainly holds true today. I have always invested a

portion of my mother’s own personal retirement savings in Real Estate Investment Trusts because I believe them to be not only safe,

but a prudent way in which to diversify her own portfolio. I trust

them for my mother. I hope I have the trust to be able to invest

them myself. I don’t, as I say, just recommend these to others; I

have invested in my own personal account as well.

Again, I reiterate my support for the chairman’s legislation and

look forward to its speedy consideration by the full House of Representatives.

Mr. PORTER. Thank you, Congressman. Appreciate your comments. And my best to your mother. Take care of your mom.

Mr. Foley. She is happy, she has a new pope today. She is

pleased.

Mr. PORTER. Yes, I am sure she is. Give her our best.

Mr. FOLEY. Thank you.

Mr. PORTER. Next, Congressman Neal.

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STATEMENT OF HON. RICHARD E. NEAL

Mr. NEAL. Thanks very much, Mr. Chairman. I want to also join

with my friend, Mark Foley, another son of Massachusetts. Of

course, one of the reasons that I have defended Social Security so

arduously is because of your mom. So I am looking out for her as

well as the rest of my constituents of Massachusetts.

Mr. FOLEY. Thank you.

Mr. NEAL. Mark is, I think, the second chairman I have served

with on the Real Estate Caucus. I do want to thank you for taking

the time to do it, because it really is worthwhile.

Adding a Real Estate Investment Trust [REIT], to the TSP would

give Federal workers the opportunity to achieve greater diversification of their investment portfolios, potentially making their investments more stable and more secure. Retirement savings, as we all

know, given the debate that is taking place across the country even

as we speak, really are a sacred trust. The individuals responsible

for designing and administering these plans uphold a precious responsibility: that when people who have worked hard all of their

lives reach retirement, the funds that they have invested will be

there to sustain them for the next chapter of their life.

When we think about adding another fund to TSP, we should

carefully consider a variety of issues, such as whether the dividend

income is dependable, long-term performance, whether it is workable administratively, costs associated, and so forth. But the bottom line question that we need to focus on is whether it will help

Federal workers achieve retirement security. Is it a good investment tool for them? In the case of REITs, the answer is clearly yes.

Recent history has shown us too many heartbreaking examples

of what can happen when people fail to diversify their retirement

savings. My clearest memory of Enron and Worldcom scandals is

of the interviews with former employees who were left wondering

how they would manage after their companies’ implosions also took

down their retirement savings, and we should never forget that

here in Congress, what happened in those instances. It is an extreme example, but it is an important lesson in why workers

should be encouraged not to put all of their eggs in one basket.

A REIT investment option would give Federal employees one

more opportunity to achieve meaningful diversification of their retirement portfolios. Researchers have determined that returns on

real estate investments are appreciably different than the yields

from other forms of investment. For example, when the stock market is falling, it isn’t necessarily the case that REITs would also be

declining. Institutional investors recognize this and routinely include real estate in their portfolios.

Mr. Chairman and members of the committee, I believe REITs

would offer Federal workers an outstanding investment opportunity. They combine reliable income with excellent long-term performance and they offer outstanding means of diversifying workers’

retirement portfolios. And as this debate, that surely is to captivate

us for much of the rest of the year over retirement savings, I think

that we might help to set in position a model for what retirement

plans ought to look like for the American people.

[The prepared statement of Mr. Neal follows:]

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Mr. PORTER. Thank you very much, Congressman. Appreciate

your testimony.

And to both of you, I know for years you have been monitoring

and working closely with real estate across the country, and we appreciate your expertise today.

I am not sure if there are any questions from the panel.

Mr. DAVIS. Just one.

Gentlemen, thank you both for your testimony and for your articulation of the importance of this legislation and what it will, in

all likelihood, do for those of us who participate in it.

Obviously, we are always looking to make sure that investments

are as safe and as secure as they can possibly be. An employee

could actually put all of their investment into one of these plans,

and, of course, if something should happen to it, they could also

lose all of their investment. Would you suggest that there might be

some restriction on that as a safeguard?

Mr. FOLEY. Well, I like to caution everyone that you have to diversify. I don’t like to put percentages on any particular investment

portfolio, because you may deny that individual who has knowledge

of the marketplace from gaining substantial yields on investment.

In my particular case, though, I found my way to diversify, because there are going to be good years in equities, there are going

to be some very bad years. I remember 1999, 2000, and 2001. But

with dividend-paying stocks, with Real Estate Investment Trusts,

with a mixture of bonds and fixed income, and also doing some

things like mutual funds, the average investor can insulate themselves.

I would always be willing, though, to look at some caps on each

individual account, because I do think we saw a lot of people in

1999, prior to the meltdown, watching CNBC every 5 minutes,

thinking they could outsmart the market and better return investments to their portfolio. Sometimes greed needs to be reined in

with logic.

So I always like to see a balanced approach. Again, the old

adage—it may be simple—don’t put all of your eggs in one basket

seems high praise to people who choose a multitude of paths in

which to invest.

Mr. NEAL. It is a great question, and I think that it is the leadin to part of the Social Security debate. I think that is why the certainty of Social Security becomes so important at a date that is predictable. But most importantly, I think this is a lesson that is lost

because we forget sometimes of what institutional memory means

in this town. I came to Washington in the middle of the S&L crisis,

and I watched people sit across the desk from me in my constituent

office back in Springfield who didn’t know there was a $100,000 on

FDIC.

And since an anecdote is such a powerful part of our public lives,

I think it always will stand out for me the woman who was trying

to raise twins that were retarded, and she had saved $240,000, and

came to my office asking how she could get her money back. They

were only going to guarantee $100,000.

This is what I think we have to keep perspective on in this debate over retirement savings. If we were sitting here 10 years ago,

the same people that would be saying today that it is easy to take

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this cautious approach to investment, 10 years ago they would

have been saying to us how can you not get into the dot com investment opportunities. They would have been assuring us look what

has happened; it is guaranteed forever. Who listens to them any

more?

And my point is that I think is such a sound part of investment

strategy, as Mark has done a good job of outlining. There is nothing wrong with some risk, but there ought to be some certainty too,

and that is how we would balance it.

So I think Mr. Davis asks a very, very appropriate question.

Mr. FOLEY. I guess I could ask a rhetorical one, then. Should the

Social Security recipients be all invested in one fund, and that is

T bills? And that is one of the questions we would like to explore.

I agree there are some inherent risks. My thrift savings account,

again, I have the fixed income, the Government bond; C Fund equity; S Fund, small cap; I Fund, international.

I have been here 10 years. Taking all of those years, including

the horrible years we suffered, in the most conservative investment

I am still at 5.6 percent annualized; the most aggressive, in the C

Fund, I am at 11.6 percent annualized. Spread out among those

portfolios, I have earned significantly more than we have been able

to earn for the Treasury for Social Security.

My last analogy will be my constituents. I represent the fifth

largest senior population in America, so this is a very important

debate for me. Those very same constituents will drive 3 miles if

the CD offered at this bank is one-eighth of a point higher. With

their own money they shop prudently, they look for yield and return, sometimes toasters. But at the end of the day they are able

to maximize their income by some diversification.

We understand Social Security is a very complexing and concerning equation. When my grandmother died, all she had was Social

Security and Medicare. My job as a member of the Ways and

Means Committee is to make sure, whatever we do, people like my

grandmother will rest in peace and those who are still alive will

have the peace of mind knowing it is a solid program.

Mr. DAVIS. Well, I thank you both, and it seems to me that we

are saying that this isn’t necessarily for the high-rollers, that this

is for security, in a sense. And I think that both Social Security,

as well as the TSP, requires a certain amount of looking at, as well

as analysis and education, and I think some people take the position nothing ventured, nothing gained, or they take the position the

greater the risk, the greater the reward. And I think education becomes the key, and I thank you both.

Mr. NEAL. Mr. Davis, could I comment on that? You are absolutely right, but I just want to harken back to that point that I

made about dot coms. The same forces in this town that were agitating for expanding the opportunity of the stock market and Social

Security a decade ago, they would have been agitating to put this

money in the thrift savings account into more aggressive opportunities. They are gone, and I think that is what we have to be mindful

of.

I think the anecdote that Mark used is right on target: his

grandmother. All she had was Social Security and Medicare. And

I think that, with us, adding on opportunities for people, again, emVerDate 11-MAY-2000 13:30 Dec 06, 2005 Jkt 000000 PO 00000 Frm 00031 Fmt 6633 Sfmt 6633 D:\DOCS\23944.TXT HGOVREF1 PsN: HGOVREF1
28

phasizing the term add on, makes a lot of sense, but I hope that

we don’t forget the world of the dot com bust, Worldcom, Enron,

and the S&Ls.

Mr. DAVIS. Thank you.

Mr. PORTER. Well said. Thank you, gentlemen. Appreciate your

testimony.

As is customary for the committee, we would now like to perform

the oath for all witnesses, administer the oath. So if all the witnesses would please stand.

[Witnesses sworn.]

Mr. PORTER. Let the record reflect all the witnesses have answered in the affirmative. Please be seated.

I would like to call on our second panel, Mr. Saul and Mr.

Amelio.

For some of you that have not attended any of my subcommittee

hearings, I have jokingly always said we are going to meet in Las

Vegas next year. Let me assure you that we have a dry heat in Las

Vegas, and we appreciate that it is warming here, but we kind of

like the dry in the west. Welcome.

Mr. SAUL. I accept the invitation.

Mr. PORTER. Well said. Thank you.

First of all, the Honorable Andrew Saul is chairman of the Federal Retirement Thrift Investment Board. Would you like to

present your testimony?

STATEMENTS OF ANDREW M. SAUL, CHAIRMAN, FEDERAL RETIREMENT THRIFT INVESTMENT BOARD; AND GARY A.

AMELIO, EXECUTIVE DIRECTOR, FEDERAL RETIREMENT

THRIFT INVESTMENT BOARD

STATEMENT OF ANDREW M. SAUL

Mr. SAUL. Thank you, Mr. Chairman.

Good afternoon, Mr. Chairman and members of the subcommittee. My name is Andrew Saul, and I am the chairman of the Federal Retirement Thrift Investment Board. The Board administers

the Thrift Savings plan for Federal employees and members of the

uniformed services.

I am accompanied today by Gary Amelio, the Board’s Executive

Director. My four fellow Board members and I serve in a part-time

capacity. Gary serves as the full-time Chief Executive Officer of the

agency. The five Board members and the Executive Director are established by statute as the plan fiduciaries and, as such, are required to act solely in the interest of Thrift Savings Plan participants and beneficiaries.

When Gary and I last appeared in this room to present testimony

in July 2003, we were newly appointed to our positions and in the

midst of implementing a new TSP recordkeeping system. In response to concerns expressed by Committee Chairman Tom Davis

and other Members, I provided assurances that the new system

would dramatically improve service to participants. This has been

done. Transactions which used to take up to 6 weeks are now executed each day. The ThriftLine queues have been eliminated. Webbased access has been dramatically expanded and operates in less

29

than a third of the pre-conversion time, and the transaction capacity has been increased exponentially.

After implementing the new system, the Board approved Gary’s

plan to continue to drive service levels up and costs down on all

fronts. The TSP data center was upgraded for speed and capacity

tenfold and a backup facility which can be activated within hours

to provide seamless service has been brought on-line. We instituted

a parallel call center to improve response times and ensure uninterrupted service during emergencies.

Calls are now routinely answered within the service standards of

the largest and best private sector providers. For the first time we

are in the process of soliciting bids for recordkeeping services, thus

ensuring that participants are getting the best quality and price

the competition can secure. Agency staff has been reduced by 10

percent through attrition and our budget has been reduced by $15

million, about 14 percent. This is especially important since participants pay the costs of running the plan and these savings all accrue to their bottom line account balances.

The total cost of the TSP for plan participants was down to 6 basis points or 60 cents per $1,000 of account balance in 2004. This

includes both the asset management and administrative expenses.

Gary is promising to bring costs down even further, perhaps by another 15 percent, this year. And, by the way, the Board will hold

him to that. In terms of industry comparisons, we are off the charts

when it comes to preserving participants’ funds in their accounts

rather than spending them on unnecessary administrative expenses or investment fees.

We have aggressively pursued our statutory obligation to develop

policies which are suitable for long-term investment. We have reviewed the performance of the current TSP investments each calendar quarter and have expanded ongoing efforts to remain current

on industry practices. The other Board members and I have conducted due diligence site visits to our major vendors. Where appropriate, Gary and the agency staff have met with industry and government officials, conducted site visits at facilities run by the major

national financial service providers, and kept the Board members

fully appraised.

At Gary’s recommendation, we have established the most important new TSP investment policy in at least 10 years by approving

five new Lifecycle Funds for the TSP. These funds, which debut

this summer, will provide participants with the benefits of professional asset allocation. Consistent with the fundamental policy

twice approved in statute by the Congress, these investments will

use the broad-based index and government services [sic] funds now

offered by the TSP. Once in place, the Lifecycle Funds will generate no additional charges to participants other than the minimal

costs for periodically reviewing the asset allocation model design.

As would occur with the introduction of any new fund, there will

be costs for systems modifications as well as substantial costs associated with the comprehensive design, development, and distribution of materials to educate participants. Indeed, we have budgeted

$10 million for this effort, in recognition of both its critical importance and the enhanced focus on financial literacy established by

the Congress last year in Public Law 108–469.

30

The education effort will be designed to meet what we consider

to be the major challenge for TSP investors: optimizing investment

performance by aligning the individual’s risk/return profile with his

or her investment horizon. In the financial world, this is known as

investing on the ‘‘efficient frontier.’’ We are very excited about the

prospect of providing the Lifecycle Funds to participants and would

be pleased to discuss this initiative in detail at the appropriate

time.

The purpose of this hearing is to discuss an investment that in

many ways is quite different from the existing TSP investments.

The Real Estate Stock Index Investment Fund proposed in H.R.

1578 would establish an index fund exclusively comprising Real Estate Investment Trust securities. Simply stated, for the TSP this

would be the wrong fund at the wrong time.

First, investment policy should not be developed one fund at a

time on a case-by-case basis. Sound investment policies can only be

developed in a comprehensive fashion.

Second, investment policy should not be developed absent consideration of fundamental plan design issues. We are well aware of

the arguments for over-weighting in risk-optimized portfolios. However, including REITs would represent a departure from the very

broad asset classes offered by the TSP and endorsed by Congress

in the past.

Third, at this time, it is essential that we focus participants’ attention on the Lifecycle Funds that we are introducing this summer.

Over the past year, the Board has been kept apprised of the interest expressed in REITs by both the Congress and the industry

representatives. Gary and the agency’s professional staff have met

with industry representatives, received the industry association’s

analysis, and performed an independent review of that analysis for

the Board. They have also met with congressional staff and shared

with the subcommittee the results of their review. The Board

strongly endorses the open process in which the Executive Director

and the agency’s professional staff engaged the proponents of a

REIT fund, as well as the findings and conclusions of the review

by the professional staff.

For the reasons detailed in that review, as well as what I have

said and Gary will say today, the Board unanimously recommends

against the addition of a REIT fund at this time.

Mr. Chairman, I will conclude my remarks at this point and ask

that the remainder of my statement appear in the record. Thank

you.

[The prepared statement of Mr. Saul follows:]

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34

35

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Mr. PORTER. Thank you, Mr. Saul.

Before we move on, Mr. Amelio, co-sponsor of the original bill,

Chris Van Hollen.

Sir, would you like to have an opening statement?

Mr. VAN HOLLEN. No, thank you, Mr. Chairman. I am pleased

to join with you in introducing this legislation. I look forward to the

testimony of the witnesses. Thank you.

Mr. PORTER. Very good. Thank you.

Next I will introduce Mr. Gary Amelio. I know you had a warm

introduction already, but Executive Director of Federal Retirement

Thrift Investment Board. Welcome.

STATEMENT OF GARY A. AMELIO

Mr. AMELIO. Thank you, Mr. Chairman, members of the subcommittee. My name is Gary Amelio. Since June 1, 2003, I have

served as executive director of the Federal Retirement Thrift Investment Board. Before coming to the Board, I had 23 years of private sector experience in the employee benefits, tax, and fiduciary

industry. I appear before the subcommittee today with extensive

professional experience.

My mission is to apprise the subcommittee of the unanimous position of the TSP fiduciaries, being the five Board members and

myself, to oppose legislation which would add a REIT fund to the

plan. Our position is neither a commentary on the investment worthiness of REITS, nor a permanent edict.

A fiduciary must exercise the highest degree of skill and care

when considering changes to the plan’s investment options. The

universe of available investment options should be evaluated to determine whether any alternatives might be added or taken away.

This in total review is a necessary fiduciary function.

Examples of options to be considered in a comprehensive review

include: (a) whether to split the existing C and S Funds to provide

for growth and value equity management styles; (b) replacing the

existing S Fund with separate small-capitalization and mid-capitalization funds; or (c) adding other asset classes such as international emerging markets, hedge funds, high-yield debt, inflation

protected bonds, known as TIPS, and commodities.

The analysis must also consider the existing TSP plan design.

For example, our enabling statute requires the plan to be administered at a low cost. After reviewing current industry products, I believe that any REIT fund, even if acquired through competitive bidding, could cost the TSP participants many times more than the existing plan menu. Moreover, there could be other significant expenses, such as transaction costs.

Furthermore, adding a fund to the plan is not a ‘‘freebie.’’ It

could increase the expenses for participants by as much as 10 percent, that is $8 to $10 million, to engage contractors to modify the

TSP’s Web site, its recordkeeping and participant statement systems, as well as to create new brochures and forms while destroying the existing forms.

The fiduciaries have determined that the cost of the Lifecycle

Funds rollout which is currently underway is money well spent

since it educates the participants about the importance of asset allocation. Even those participants who choose not to utilize Lifecycle

37

Funds will benefit from the educational materials. There is no commensurate benefit in communicating a narrow, industry specific

product.

The fiduciaries’ fund selection process is, of course, based upon

need and demand. The Thrift Savings participants already hold

over $1 billion in REITs through the C and S Funds, making our

plan the 13th or so largest holder of REITs in the country, i.e., the

need is already met. As for demand, there is no use adding a fund

that no one wants. I receive many letters, e-mails, and calls from

the 3.4 million participants who are quite willing to share their

thoughts about the plan with me. In my nearly 2-year tenure, I

have received only one letter concerning REITs.

As the subcommittee is aware, the administration has held the

Thrift Savings Plan up as a model in terms of structuring investment options for individual retirement savings. Many reputable national financial reporters and virtually all of the major news and

trade publications have written about the TSP and specifically its

menu of investment options in laudatory terms. Our simple five

fund structure, low costs, broad-based index investment approach,

and long-term performance have generated high confidence levels

and unequaled participation rates.

In deciding whether to offer Lifecycle Funds for the TSP, we first

issued a Request for Information, seeking input from major investment consultants, banks, and mutual fund managers. We asked all

of these organizations the same question: whether the TSP fund

lineup offered our participants adequate opportunities for diversification in their accounts and, by extension, in the Lifecycle

Funds. Every organization affirmed that the current TSP fund

menu offered such diversification and that additional funds were

not required. Several of the organizations affirmed that the current

TSP fund options offered not only adequate but ideal diversification.

Moreover, the agency has already received an expert opinion concerning the need for additional funds. Mercer Investment Consulting, the expert we selected to develop Lifecycle asset allocation

models, examined the current TSP fund options to determine if

they provided adequate diversification for TSP participants. They

affirmed that the current funds provided diversification and that

no other funds were needed at this time.

The next paragraph is very important.

The Board members and I have decided to engage a reputable investment consulting firm to assist in analyzing various investmentrelated plan issues. A review of investment options, securities lending, risk management controls, and next year’s competitive bidding

of the existing funds’ management are all considerations in this

discussion. I request that any consideration of legislation be delayed at least until after the appropriate review by the plan’s fiduciaries.

That concludes my remarks, and I ask that the remainder of my

written statement appear in the record. Thank you.

[The prepared statement of Mr. Amelio follows:]

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42

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Mr. PORTER. Thank you for your testimony.

Now I would like to open it up for questions.

Regarding the cost factor, I know that is in your backup and in

your testimony, you previously made cost comparisons between F

Fund and the REIT Fund when drawing conclusions about how

much a REIT Fund would cost. But Barclays has compared the S

Fund to the REIT Fund in some ways. Wouldn’t it be more appropriate, then, to compare the S and the REIT for the cost purposes?

Mr. AMELIO. Well, if you look at the cost—first of all, we are, I

believe, the cheapest legal investment in the world. When I got

here, back to 1996, we were at about 7 basis points.

Mr. PORTER. Less expensive. How about that?

Mr. AMELIO. I am sorry, sir?

Mr. PORTER. Less expensive.

Mr. AMELIO. Less expensive, yes. It sounds better than cheapest.

Sorry, Congressman.

We have since got down. Last year we were down to 5.83 basis

points. This year we are projecting we will be at about 5. Those

costs are 100 percent of the plan’s costs, administrative as well as

investment, and I have to tell you the investment piece of that is

very small. If we go out and were to competitively bid and bring

a REIT in—and, by the way, those charges are across the board for

the five existing funds—of course, I don’t know exactly what competitive bidding would yield, but, just based upon generic discussions, we have reason to believe that the management fees alone

would be somewhere in the 10 to 20 basis point range.

Now, we may find that we get someone to bid lower than that.

We may find the bid higher. We just don’t know until competitive

bidding. But if you assume 10 basis points versus what we are paying now, that particular fund would be somewhere in the 15 to 25

basis point range versus the existing 5 funds, and it is just way out

of sync with the existing 5 funds.

Mr. PORTER. You also have a comment that may be confusing by

adding additional funds. From what little I have seen to date on

the Lifecycle Funds, it seems like that is going to add additional

complexity also. Is there a reason why it will not be confusing as

the REIT would be in your argument in your white paper?

Mr. AMELIO. When you have 3.4 million participants around the

globe, anything you do to the plan is complex in terms of communicating. But we have an extensive education effort, which actually

Congress asked us to do last year in conjunction with OPM, and

what we are going to roll out is asset allocation in general, as well

as Lifecycle. I wouldn’t portend that it is not complex, it is simply

that it is much broader education, because when you talk about

Lifecycle, you are talking about overall retirement needs.

Mr. PORTER. Yes, Mr. Saul.

Mr. SAUL. Mr. Chairman, I would just like to answer the question that you just asked from my own behalf. The thing that always has impressed me about the Thrift Savings Plan—and I am

a professional investor in my private life—when I came here, I

couldn’t understand how we offered so few choices. After spending

31⁄2 years here, I think that is the strength of this plan.

The fact is we have people that are very dedicated to their professions, 31⁄2 million of them, some in the military, some sitting

44

around this room, a lot of people sitting around this room, that

have a lot of things to do, and they are not professional investors.

And I think that when you have a plan that is simple like this but

very broad-based, you must remember that if you look at all the

options, the five options that we give, it is pretty inclusive, everything from investing in stocks in Great Britain to investing in

small Russell 2000 stocks, small companies, to buying all different

kinds of bonds, whether they be corporate bonds, or governmentissued bonds, foreign government bonds.

We have a money market fund and, of course, we have the S&P

500. We have a lot of real estate stocks in the S&P 500 and the

small cap fund. This is a very, very broad-based group of indexes

and choices that we issue to people that are not that sophisticated,

for the most part, in investing.

The Lifecycle Funds do not add any complexity to this thing. As

a matter of fact, it takes away the complexity because what it is

doing is doing the asset allocation for people that may be intimidated by the chore of investing their money. We are not adding any

more plans at all. We are not adding any more to the menu by adding Lifecycle Funds. All we are is actually adding an asset allocator

that will make it much easier for the average participant, I feel,

to invest his money.

So I just want to sum this up, and I know it is a long-winded

answer, but I think it is very important. I think if you look at our

plan, the strength of our plan is the fact that it has limited choices

but a full range of options within those choices because of the

broad base of financial markets that our plan covers.

Mr. PORTER. One of the reasons that I encourage the passage of

the bill is this allows everyone to have an oportunity to invest in

real estate. There are a lot of folks in the country that are in a financial position to do it on their own. This gives everyone an opportunity within the plan. But when we look at the returns, take

the G Fund from 2000 to 2004, it was 5 percent; the I Fund was

1.2 percent; F Fund, 7.8 percent; the C Fund a 0.8; the S Fund 3.6;

and you look at the REIT Funds, we are at 22.4 percent. So is

there a reason that you haven’t moved forward with REITs in the

past?

Mr. SAUL. First of all, I think the important thing in looking at

this plan is to look at the results over a longer period of time rather than 5 years. I think that you really have to go back, take a period from 1988 to now, where we have accurate statistics on the

plan, and take a look at the returns there. Any one of the plans

can do well at any shorter period in the cycle, there is no question

about that.

But what you really want to do is if you have somebody that is

a young person that is investing in this plan, he is 25 years old,

hopes to work until normal retirement age, you really want to see

how he does over the long period of time. And I think if you look

at these broad-based choices, which, by the way, I am not against

real estate, I own personally a lot of real estate. I want you to

know that. It is a bedrock of the U.S. economy.

And I do think that we have that included in the broad-based

funds that we have now. But I don’t think it is accurate, and I

would caution against picking out any one investment over a short

45

cycle and see how it does. I think the real thing is to take a look

at it over a longer period of time and then see how it does.

Mr. PORTER. And I know I am actually using more than I am entitled to, but just to followup. In the past 30 years the REITs have

out-performed the Standard & Poors. If you look from 1988 to 2004,

the Real Estate Investment Trusts have returned about 14 percent

since 1988. So we are looking at the long-term, and these numbers

actually came from the Ibbotson Associates. So I think we have

some disagreement, and we will have some more time to get back

to that, OK?

And as far as the information, it came from the Board itself.

Thank you.

Mr. Davis.

Mr. DAVIS. Thank you, Mr. Chairman.

Chairman Saul, you indicate that investment policy should not

be developed one fund at a time on a case-by-case basis, that it has

to be, or certainly should be, comprehensive. Does that mean that

once you have established a plan, that in all likelihood you would

not add, detract, or subtract at some point?

Mr. SAUL. I think that as fiduciaries we look at this thing on a

quarterly basis. I think that you have to—business is evolutionary,

the U.S. economy is evolutionary. Things are changing all the time.

I think that the duty of the fiduciaries, and why I have been chairman, we look at this quarterly, monthly, is to look at all possibilities.

And I think you are absolutely right, we are talking about the

possibilities, and I think there are possibilities there, things in the

future. Any prudent businessman would feel that way.

I think you would also want to look at the offerings that you

have, and I think that Gary said that in his testimony, that we

would constantly look at the existing plans and see if they should

be changed in any way. I think you are absolutely correct in that

assumption. I think the whole plan has to be constantly evaluated

on an ongoing basis.

Mr. DAVIS. Notwithstanding the fact that real estate has been

fairly strong. I think of my own city, especially in much of my district, which is Downtown Chicago and within the Loop area, I

mean, things are simply booming. I mean, they are going great

guns.

So it would seem like, in a sense, that since there is a level of

stability—and I just returned, say, from China a couple weeks ago,

and real estate was pretty hot there as well; finding a place to live.

And, of course, in Japan it is pretty good too. Certainly notwithstanding these market conditions, you still wouldn’t recommend?

Mr. AMELIO. I believe it is absolutely the wrong reason to make

an investment decision. It is using the rifle approach target, almost

stock picking. Virtually all professional asset managers, investment

managers will tell you that asset allocation, rather than stock picking, is the way to go, particularly for unsophisticated investors.

What we have are broad-based funds that cover every food group

of investment in this country, if not the world, and that offers the

best protection over the long term.

I am not saying there isn’t a better investment option out there,

Congressman. There might be, and this one might have had a great

46

run. And if you lived in Houston a few years ago, Enron had a better run. But eventually all great individual things could come to an

end. And I am not saying this would. We are not being critical of

REITs, we are just saying broad-based and asset allocation is the

way prudent 401(k) providers have to look at this.

Mr. DAVIS. Do you normally hear from participants a great deal?

You indicate that you haven’t heard much from participants suggesting that we move in this direction. Do you hear from participants about anything? I am saying at all. Do you hear from them?

So is this an unusual circumstance or you just don’t hear from

them?

Mr. AMELIO. Actually, I get a great deal of feedback. The participants aren’t shy, as many of you are aware, especially those with

districts with a lot of Federal employees. Two years ago we got over

25,000 letters when we had the recordkeeping problem. I get contact in one of many ways: we get letters, e-mails, phone calls, and

sometimes it is heavy. I do a lot of speaking myself to participants.

I go out all over the country and I speak to large groups of participants, as many as several hundred at a time. Next week I will be

seeing about 500.

And I get a lot of feedback. And most of it really is along the

lines—they are very fee conscious. I am hearing an awful lot about

these Lifecycle Funds. They feel they want more assistance in

terms of getting educated for when they retire. But I have only got

one letter on this subject in 2 years.

Mr. DAVIS. Thank you very much.

Mr. AMELIO. Yes, sir.

Mr. PORTER. Congresswoman.

Ms. NORTON. Thank you, Mr. Chairman.

Given your testimony from an independent board, all appointed

by Republicans, I am disinclined to say it would be adverse to expanding investment opportunities. So I approach this whole hearing, as I do most hearings in Congress, simply with a sense of

skepticism about both sides so I can make up my mind.

I was on this committee in 1996, when the S and I Funds were

at it. Now we are into more than 10 years, and no new funds. Did

we reach nirvana then? Have we reached perfection in the last 10

years? One might ask why it took us so long to get to the S and

I Funds. Perhaps you can—particularly since you say—I guess it

is in your testimony, Chairman Saul, you indicate that there has

already been an independent review.

You talk here about yet another study, but you indicate on page

3 of your own testimony that you are offering this testimony after

doing an independent review and analysis for the Board. So I am

not sure, first, what the new—I take it that you probably looked

only at REITs, and maybe you were looking at the whole thing

when you did your own independent review. But I can’t tell the difference between what you have already done and what you propose

to do.

I can’t tell what made you go to S and I Funds, but reluctant to

go further at this time, particularly when you talk about transaction costs, since every time you do it there are going to be transaction costs, I suppose. So I suppose I am asking how do you operate. How do you decide when, if ever, to diversify further, particuVerDate 11-MAY-2000 13:30 Dec 06, 2005 Jkt 000000 PO 00000 Frm 00050 Fmt 6633 Sfmt 6633 D:\DOCS\23944.TXT HGOVREF1 PsN: HGOVREF1
47

larly bearing in mind that you can’t make money without investing

some money. So we know it is going to cost you something if you

add to the funds, as it must have cost you something in 1996.

Go ahead.

Mr. AMELIO. You have a lot of questions in there. I will talk fast.

First of all, I want to say this under oath. I am appointed by the

Board, not by the President. I am——

Ms. NORTON. No, I know. The Board is appointed by the President and by the Speaker.

Mr. AMELIO. The Board, in 2 years, has never brought politics

into the TSP setting, and I want that on the official record under

oath. Never once. And I want to make sure I make that clear.

Second thing is with respect to the consultants, the consultant

that we talk about and the others that we interviewed did that in

terms of the Lifecycle Funds in looking at our existing mix, and

they did not look specifically at REITs, they gave us their investment opinion, Mercer did, in terms of looking at the Lifecycle

Funds.

The last study we talk about on the last page of my testimony,

that paper is the Board and I have already decided——

Ms. NORTON. Well, just a moment, Mr. Amelio.

Mr. AMELIO. Yes, ma’am.

Ms. NORTON. The testimony of the chairman specifically says the

Board has been kept apprised of the interest expressed in REITs

by both Congress and the industry. Gary and the agency professionals have met with industry, received the industry, and performed an independent review. This testimony clearly, it seems to

me, refers to REITs, not to Lifecycle or the rest of it.

Mr. AMELIO. We also did an—we at the plan did an independent

analysis of REITs. We have got four different studies here that we

are talking about. We did do an independent analysis of REITs.

Mercer had nothing to do with this study. Mercer put the asset allocation for us together on the Lifecycle Funds. That is independent

from the letter I sent to the subcommittee staff about REITs, they

are completely unrelated.

Ms. NORTON. Yes, but I am asking about REITs. And it says the

agency’s professional staff engaged the proponents of a REIT fund,

as well as the findings and conclusions of the review by the professional staff.

So the study I am interested in is the study that apparently has

already been done, and that is the independent review on page 3

of Mr. Saul’s testimony. Does that mean that you have already

looked at REITs? If you have, what is this new look you are going

to give and how is it different from what you have already done,

which apparently has made you conclude that we shouldn’t do

REITs at this time?

Mr. AMELIO. We did an analysis of REITs on a one-on basis, in

other words, looking specifically at REITs directly in response to

the subcommittee’s request. However, the fiduciaries have decided

to now go beyond that, engage a professional investment consultant

to look at the universe of investments, which would include REITs.

We haven’t eliminated it, we just want to look at everything in

total, as I mentioned, rather than simply look at a standalone, up

or down vote on one fund. We want to look at everything.

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Ms. NORTON. I see. Now, you say we are already into REITs, and

the difference between what we are into is standalone REITs versus what we are into. How much REITs are we into?

Mr. AMELIO. $1 billion.

Ms. NORTON. Of REITs alone?

Mr. AMELIO. $1 billion of REITs alone sit in—well, they are part

of the C and the S Fund; 8 percent of the plan.

Ms. NORTON. Well, let me ask you this. The chairman pointed to

some initial figures over the short-term that were very impressive.

Then you challenged him about long-term investments. Then he

quoted some long-term figures that were equally impressive, which

makes me want to know why we did so poorly between 2000 and

2003 if we are so invested in REITs. Where REITs, at least during

that period, when everything else was in the valley, were going up.

REITs didn’t look like it helped us then, so I don’t know what $1

billion means, $1 billion out of whatever. Perhaps you should tell

me $1 billion out of what is the total amount.

Mr. AMELIO. $155 billion.

Ms. NORTON. Out of $155. Well, no wonder it didn’t help us

much. Maybe that is why some people want REITs by themselves.

I was not satisfied with your response, because the chairman

challenged you again about the long-term returns on real estate. It

kind of reinforces the stereotype all of us have about real estate,

where real estate did better than the traditional stock. And yet you

seem reluctant on REITs, and you are so little invested in REITs,

that when you were going down the drain and, by the way, taking

all of the rest of us with you in 2000 to 2003, we were dependent

upon you all to do much better since all of us didn’t have the sense

that we thought you had, and we were all into dot coms. You must

have been into them too.

I am wondering why, given the track record with REITs and the

track record in which you are already in, the long-term track

record and the track record for REITs, when everything else was

going down, I am trying to understand your reluctance on REITs

in particular.

Mr. SAUL. I think you ask some good questions, but I think that

I would like to try and focus us back, if I might, to part of my testimony. If you look at the investing we do at the TSP, one could always point out there are many sectors, very narrow sectors of investment vehicles that could always return, at different periods of

time, higher results than broad-based indexes. There is no question

about that. You could pick it out. I think a perfect example which

we all hear about all the time is hedge funds. If you look at the

good hedge fund operators, they have certainly done better than

the broad-based indexes. You could point to——

Ms. NORTON. It is not fair to choose the worst examples.

Mr. SAUL. Well, I think they are very good examples. There is

over $1 trillion invested in hedge funds——

Ms. NORTON. Are you invested at all in hedge funds? Are we invested?

Mr. SAUL. Personally, I have a lot of investment in hedge funds.

Ms. NORTON. No, you and me, sir.

Mr. SAUL. But I wouldn’t recommend it for this plan. That is my

point. I think that what you have to look at here is this is a broadVerDate 11-MAY-2000 13:30 Dec 06, 2005 Jkt 000000 PO 00000 Frm 00052 Fmt 6633 Sfmt 6633 D:\DOCS\23944.TXT HGOVREF1 PsN: HGOVREF1
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based plan of indexes that I think gives a highly diversified portfolio of availability to the participants, everything from money markets to international stocks. Yes, there are segments—and, by the

way, all these different things are covered, for the most part, in

these different index funds, all different kinds of investments. Energy stocks, you could pick out energy stocks in the last have been

the greatest investment since Swiss cheese.

But I guarantee you, and I don’t have the numbers right here,

but if you look at the TSP, it is very heavily weighted as the U.S.

economy is weighted in energy stocks. The indexes are weighted to

REITs as the U.S. economy as the indexes are weighted. And I

think the important thing is to focus on what the TSP—and this

is as a fiduciary I am talking about now—is to be able to offer a

diversified portfolio that is easy to understand, relatively simple to

operate to the investing participants.

Ms. NORTON. Mr. Chairman, I have finished my questions. I just

want to leave you with what I hope your study shows me. Your offthe-chart examples—hedge funds, energy—do not respond to the

chairman’s example of the long-term returns on REITs. That is No.

1. No. 2, you told me something that impressed me. You said you

were already diversified within the funds we had. That impressed

me.

Then I thought about REITs, the short-term and the long-term

return on REITs, and all I could think of, well, if they were diversified in REITs, really diversified within their present funds, sufficiently in REITs-type investments, then their fund, TSP, would

have done better between 2000 and 2003.

Look, I am with you. I am with you only because you do this

every day, you have a unanimous Board. I am not about to secondguess; you know, I did my second-guessing during dot com. I am

not about to second-guess your judgment. I do want to say you

have not—I have a presumption in favor of what you have said, but

that presumption fell. That presumption has fallen. If you could

have shown me that you had done pretty well during a good period

that I think testified what happens to funds that were adequately

diversified, then it seems to me I would have another view.

I have not yet come to the conclusion that we should invest in

REITs, but I do need to know why, particularly since you were willing to take the transaction costs in 1996 and have two more funds,

I do want to know, in the long-run, after your review of all the possibilities—and, as I understand, you will be looking not only at

REITs, but whether or not you should be in some other things as

well. That is very fair. That is very fair.

But given what the long-term returns shown on REITs, given

your meager investment in REITs, then it seems to me you have

an obligation either to show us that we ought to be in REITs or

you ought to be more in REITs in terms of your own diversification.

Thank you, Mr. Chairman.

Mr. PORTER. Thank you.

Mr. Van Hollen.

Mr. VAN HOLLEN. Thank you, Mr. Chairman.

And thank both of you gentlemen for your testimony. I understand your caution on adding a REIT option, and I appreciate your

caution. In my view, you have an institutional responsibility to exVerDate 11-MAY-2000 13:30 Dec 06, 2005 Jkt 000000 PO 00000 Frm 00053 Fmt 6633 Sfmt 6633 D:\DOCS\23944.TXT HGOVREF1 PsN: HGOVREF1
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ercise an overabundance of caution and take a very careful look at

any additional options that are added to the plan.

But I also think we all have the same goal in mind: we want to

make sure that Federal employees have a source for stable and reliable retirement income and that they have the opportunity to

take advantage of all the options that are out there, including options that are increasingly available in the private sector. Now, your testimony was that you have about $1 billion invested

in REITs, which is a lot of money in an absolute sense, but as a

percentage of your overall portfolio, as Congresswoman Norton’s

questions pointed out, it really is small. As a percentage, what is

it, about 0.7 percent?

Mr. AMELIO. Eight percent, 8.3, I think.

Mr. VAN HOLLEN. I am sorry?

Mr. AMELIO. It is a little over 8 percent.

Mr. VAN HOLLEN. Eight percent of your portfolio is invested in

REITs?

Mr. AMELIO. Yes.

Mr. VAN HOLLEN. All right.

Mr. AMELIO. And that is a significant number by all industry

weightings.

Mr. VAN HOLLEN. All right. That information is somewhat at

odds with other information we have gotten, so that is something

we can flush out. One of the purposes——

Mr. PORTER. Would the gentleman yield?

Mr. VAN HOLLEN. I would be happy to yield.

Mr. PORTER. You have $155 billion, correct, in assets? It appears to me that $1 billion of $155 is less than 1 percent.

Mr. AMELIO. Oh, I am sorry, it is 8 percent of the S Fund.

Mr. VAN HOLLEN. Oh, OK. Well, that is a very different answer.

Mr. PORTER. One percent.

Mr. SAUL. But you have to take out the Money Market Fund, you

have to take out the debt funds, because that really has no bearing

on any equity at all. Don’t forget, 47 or 46 percent of the Fund is

invested either in the Money Market Fund or the Lehman Brothers

Bond Index Fund. So you have to really take the debt out. So really

what you have left is the equity portion and the debt portion; you

can’t talk about it together.

Mr. VAN HOLLEN. OK.

Mr. SAUL. People have made that choice.

Mr. VAN HOLLEN. OK. But in terms of the overall Fund, it is a

little less than 1 percent. But I understand the points that you are

raising.

Let me ask you. In the State of Maryland we have an Employee

Retirement Fund where I think that we have a considerable greater amount invested in real estate options, including the REIT option, and you raised the question about the demand from people

who are participating in the system for this option. I haven’t heard

a huge demand, but I have heard constituents of mine who say

they wish they had an opportunity to invest in a REIT option and

that it would provide an additional investment opportunity.

And, of course, in the final analysis it would be their choice. In

other words, if people are not interested, I think that would be reflected in the demand for investment in this fund. So I think that

51

issue cuts both ways, and ultimately it will be the decision for people who are making this investment.

So, Mr. Chairman, I don’t have a lot of questions on this. I would

like to get more testimony on the cost issues you raised with respect to the transaction costs. And one of the reasons I think it is

very important that we are going forward on this hearing and

pushing on this is to get out in the open, as part of a public dialog,

some of these issues.

But I guess in closing I would ask you this, because it is my understanding that within the private sector there are a growing

number of 401(k) plans offered in the private sector that offer a

REIT-specific investment option, that it is an upward trend in the

private sector. Is that your understanding?

Mr. AMELIO. Yes. I wouldn’t argue with that.

Mr. VAN HOLLEN. And I also understand that four of the six largest 401(k) plans in the private sector now offer their participants

a REIT option. Do you know whether or not that is the case?

Mr. AMELIO. Actually, I believe that might be erroneous, but I

could be wrong. The last thing I saw did not show that, but I could

be wrong about that.

Mr. VAN HOLLEN. But I guess the point here is that my constituents who are working the private sector and working for different

companies increasingly have an opportunity within their savings

options to invest in REIT funds, specific REIT funds, and the question is why shouldn’t we offer Federal employees the same option

that is increasingly being offered to individuals in the private sector? I guess I would ask you that question.

Mr. AMELIO. I want to make a point. If you look at percentages,

we are off the charts. We have 87 percent participation amongst

people eligible to participate in the TSP. If you look at the private

sector, it is about 70 percent. So we have a higher confidence level

in our participants. And from the participants that we have talked

to and from all of the experts that have written about it, it is because of the simplicity; there are five funds only.

And that really has a lot to do with it, it is simplicity. Major

studies by major vendors in the industry have shown that for every

10 investment options that you offer, you lose 2 percent of the participants; they throw their hands up and walk away. They get overwhelmed, they get confused; they don’t want to deal with it. So it

is just innate, very protective, and I would argue not conservative.

I don’t think we manage the plan conservatively; we try to be protective of it. But you don’t want to drive participants away by adding a lot of funds. You are talking about one here.

My biggest concern, and I think one of the Congress people mentioned before, is process. This is a very bad way to add a fund, to

do a onesy, to look at one fund and say we have to add this one

fund. If you go out and talk to the fiduciary of every major private

sector plan in America, they will tell you they get a consultant and

they look at the universe; what is in the plan, what is out of the

plan, and let us figure how to fill in the gaps, get out of funds that

aren’t being used, and what to add. Nobody that I am aware of, no

major fiduciary just simply says one off, let us just throw one fund

into this.

52

And even looking at the long-term numbers, I don’t see where

they differ between the REITs and the C and S from 1988 back to

technically when the plan was brought in; they are virtually the

same.

The REIT Fund here, the numbers that Congresswoman Norton

was talking about, the REIT, 14 percent. The S Fund is 13.8 and

the C Fund is 13.7. I mean, it is de minimis. We had the same

yields in two of the funds. Certainly the G Fund is lower, but at

6.6, that is bigger than any money market or savings fund. We are

very competitive.

Remember with the indexes. When Congress established this

plan in 1986, they wanted to take politics out of it. They don’t want

us to try and hire money managers to beat the markets. Only 15

percent beat the markets every year; 85 percent do worse than the

markets. What Congress wanted originally, and it was ingenious,

was take politics out of this and just have it stay with the markets,

rather than trying to beat them, because most people don’t on a

regular basis.

Mr. SAUL. Mr. Chairman, may I just add something, because I

think it is important, if I might? If you look at these records, we

have here in front of us 1988 to 2004, which is 16 years of history

here. And Gary has given you the statistics of 13.7 for the C Fund,

13.8 for the S Fund, 14 percent for the REIT Fund. That is what

I was trying to refer to when I made my statement. I think I was

answering a question that you asked, Mr. Chairman, about a long

period of time.

Mr. PORTER. Excuse me, Mr. Saul. The point is that the REITs

did very well, did better than any of your funds in that period of

time. And you were commenting that over a long period of time the

REITs were not a good investment, or not as good of an investment. In fact, they were better than the other funds.

Mr. SAUL. I am sorry, that is not what I meant. Anyway, what

I tried to say is over a long period of time, 16 years, the C, S, and

the REIT Fund were very close in performance. It is true, over a

4-year period, there is no question, because there was a downturn

in the stock market, the C and S did not nearly perform as well

as the REIT. There is no question.

But what I said was you have to look at this whole thing as a

person’s investment from when they basically begin investing, as a

young person, until the time they get out of the plan, how they

have done with these different investments.

Mr. PORTER. If I may interrupt, the bottom line is they would

have been better off in a REIT than the G, the I, or the F in that

period of time.

Mr. SAUL. Well, the G Fund is a Money Market Fund, basically

all it is is treasuries, U.S. treasuries, so you have to take them out.

Mr. PORTER. Well, said, but if you are going to compare—so remove that. You were still better off in the REIT than the I and the

F.

Mr. SAUL. Well, the F Fund you can’t compare it because—let us

look at these funds. The F Fund is a bond fund, it is a debt fund.

Usually a bond fund has more stability, a debt fund, than an equity

fund. You are getting a lower return, but you are taking less risk.

So I think the F Fund you have to take out over a long period of

53

time, it is a bond fund. It is very heavy-weighted to U.S. Government bonds, which we hope are the safest thing. So that is 8 percent.

The G Fund is strictly a short-term Treasury operation where

the participants get a 3 point spread over 90 day rate because of

a long history that we have and so forth, so that——

Mr. PORTER. I don’t think we disagree on that. But what I do disagree with is the fact that the REIT would not have been a good

investment in this period of time. It would have been.

Mr. SAUL. Nobody is saying it wouldn’t have been. But that

was—we are not arguing against REITs. That is my point. I tried

to say that when Congresswoman Norton asked her very important

question, I thought, before. We are not arguing against REITs.

What we are arguing for is the simplicity of the plan for unsophisticated investors. We have——

Mr. PORTER. Mr. Saul, I am sorry to interrupt again. That is

probably the fourth time I have heard about unsophisticated investors, and I do take exception to that. I do believe that there are

folks that, as you said, have high confidence in what you are providing for them as options. But, please, that is probably the fourth

time I have heard unsophisticated. I give them higher regard than

that. I think there are many that want as easy a system as possible, but there are also those that would like to choose other options.

Mr. SAUL. When I said unsophisticated, I thought I explained

that in my testimony before. When I meant unsophisticated, I

didn’t mean unsophisticated individuals, I meant unsophisticated

in financial investing. One could be a very sophisticated person, for

example, a man that is a captain of a U.S. submarine could be a

very sophisticated person, but may not be a sophisticated financial

investor. That is what I meant.

Mr. PORTER. Which is why we want to diversify in as many options as possible, correct?

Mr. SAUL. That is what I thought we have done.

Mr. PORTER. Thank you. Appreciate your testimony.

I would like to now move on to the third panel.

We appreciate the gentlemen being here. Thank you again, Mr.

Saul and Mr. Amelio.

Welcome. We appreciate your being here today. This being our

third panel, I would like to introduce Mr. Steven Wechsler, president and CEO of the National Association of Real Estate Investment Trusts. We will then hear—and I guess Dr. Ibbotson?

Mr. IBBOTSON. Ibbotson, yes.

Mr. PORTER. You are not here to testify, but to answer questions,

is that correct, or do you have a prepared statement?

Mr. IBBOTSON. I did submit a white paper, but I am not going

to read that to you.

Mr. PORTER. Fine. No problem. Thank you very much.

Mr. IBBOTSON. I will maybe refer to it.

Mr. PORTER. And then we will have Ms. Amy Schioldager, head

of the U.S. indexing products at Barclays Global Investors.

I would like to begin. Mr. Wechsler, you have 5 minutes.

54

STATEMENTS OF STEVEN WECHSLER, PRESIDENT AND CEO,

NATIONAL ASSOCIATION OF REAL ESTATE INVESTMENT

TRUSTS; DR. ROGER IBBOTSON, CHAIRMAN, IBBOTSON ASSOCIATES, PROFESSOR OF FINANCE, YALE UNIVERSITY;

AND AMY SCHIOLDAGER, MANAGING DIRECTOR, HEAD OF

U.S. INDEXING PRODUCTS, BARCLAYS GLOBAL INVESTORS

STATEMENT OF STEVEN WECHSLER

Mr. WECHSLER. Good afternoon, Mr. Chairman, Mr. Davis, members of the subcommittee. I am Steve Wechsler, president and CEO

of the National Association of Real Estate Investment Trusts.

NAREIT represents U.S. Real Estate Investment Trusts [REITs],

and publicly traded real estate companies worldwide.

I want to preface my remarks by complimenting Congress and

the Federal Retirement Thrift Investment Board for providing

through the Thrift Savings Plan a well conceived base model for

defined contribution plans. The plan offers a set of core investment

choices utilizing low-cost index funds that maximize return to participants.

I would also like to compliment Chairman Saul, the other Board

members, and TSP staff for keeping pace with the private sector

by soon providing plan participants with a set of Lifecycle Funds.

Today’s hearing is styled ‘‘Real Estate Investment Trusts: Can

They Improve the Thrift Savings Plan?’’ Based on detailed analysis,

rigorous research, and historical experience, we believe the answer

is an unqualified yes.

Investment research demonstrates that the plan can be further

improved and the retirement benefits enhanced by adding low-cost

additional asset choices with long-term investment performance

and diversification benefits. One such core asset or distinct investment choice is commercial real estate. For decades, traditional pension plans, also known as defined benefit plans, as well as endowments in foundations have included a distinct allocation to commercial real estate in their investment portfolios.

For example, the Nation’s largest corporate defined benefit plan,

that of General Motors, reported a real estate allocation of 8 percent; the Nation’s largest public defined benefit plan, California’s

CalPERS, reported a real estate allocation of 7.5 percent; and Harvard University, the Nation’s largest endowment, had a real estate

allocation of 10 percent.

The concept of including real estate as a distinct investment

choice in a retirement plan is neither new, nor untested. Congress

understood the importance of commercial real estate investment for

investors large and small when it created REITs. Today, the time

has come to extend that vision to 3.4 million small investors who

participate in the TSP by including a distinct REIT-based real estate option.

Our Nation’s publicly traded equity REITs are companies that

generally own, rent, and manage portfolios of investment-grade, income-producing commercial real estate, including office buildings,

distribution facilities, shopping centers, and apartments. Because

REITs must distribute their taxable income to shareholders, their

dividend yields are significantly higher than those of other equities,

55

three times higher than those in the S&P 500, and produce a

steady stream of growing income.

REIT stock returns combine the growth characteristics of other

stocks and the income characteristics of bonds. When the dividend

income and price appreciation are combined, the 14 percent average annual total return to REIT stocks from 1988, the year the

TSP began full operation, through 2004 was appreciably higher

than comparable returns to bonds and above the returns to other

large and small-cap stocks. Returns to REIT stocks during that period have come with a level of volatility, a common measure of risk,

which has been below that of other large and small-cap stocks.

Strong returns, low volatility, and a low correlation with the returns to other assets are key ingredients to meaningful investment

portfolio diversification, an accepted strategy for reducing investment risk. Research has demonstrated that investment returns

from commercial real estate are different than returns from other

investments. Studies also have concluded that the competitive returns, low volatility, and low correlation of investment returns

from REITs make them a powerful diversification tool.

So it is not surprising that the proportion of 401(k) plans nationwide offering a real estate fund is on the rise. In fact, four of the

six largest 401(k) plans in the private sector now offer a real estate

fund option.

In a study requested by NAREIT, Ibbotson Associates, an authority on asset allocation, found that a distinct REIT index fund increases returns and reduces risk when added to efficient portfolios

of the existing five TSP funds. Given that the TSP to date only offers five choices, versus an average of 16 for the Nation’s typical

401(k) plan, it is clear that Federal workers are far too limited in

their choices. Consequently, NAREIT believes that the TSP can be

improved materially by adding more investment choices, starting

with a REIT-based real estate option.

For the foregoing reasons, NAREIT strongly supports H.R. 1578,

the Real Estate Investment Thrift Savings Act, and commends its

sponsors, especially Chairman Porter, Mr. Van Hollen, and Chairman Davis for introducing this significant legislation. It would give

Federal workers the choice in their retirement savings program,

which is supplemental to a Federal pension and Social Security, to

specifically seize for themselves the real estate investment opportunity Congress created for small investors years ago.

As I close, Mr. Chairman, I want to underline that NAREIT does

not maintain that a REIT-based real estate option is the only additional option which should be considered over time for inclusion in

the plan, but it is sure a good place to start.

I would be pleased to answer any questions, but I leave you with

a question for Congress and the Board to ponder further. Why

shouldn’t the men and women who work for our Nation have access

to the range of retirement savings choices currently available to

employees of many leading private sector firms and to large institutions saving and investing on behalf of their workers?

Thank you.

[The prepared statement of Mr. Wechsler follows:]

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Mr. PORTER. Thank you for your testimony, we appreciate it.

Mr. Chairman will wait for questions.

[The prepared statement of Mr. Ibbotson follows:]

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Mr. PORTER. And the managing director, Amy Schioldager.

STATEMENT OF AMY SCHIOLDAGER

Ms. SCHIOLDAGER. Good afternoon, Mr. Chairman and members

of the committee. My name is Amy Schioldager, and I am the head

of U.S. equity indexing products at Barclays Global Investors. In

that role, I am responsible for the management of our REIT index

funds. I appreciate the opportunity to discuss with you the issues

relating to adding a REIT index fund option to the Thrift Savings

Plan.

As members of this committee know, since 1988, BGI has provided investment management services to the Thrift Savings Plan.

We take great pride in the mandates that we have been awarded

by the TSP under which we manage four of the plan’s five investment options: large and small capitalization U.S. equities, U.S.

fixed income, and international equity. The fifth option is managed

by the U.S. Treasury and invests in U.S. Treasury securities.

As the members of this committee are well aware, diversification

of asset classes is an important element in effective investment

management. By ensuring that a portfolio is not dependent on any

one asset class for performance, diversification improves the potential for better returns over the long-term. Specifically, Mr. Chairman, REITs offer to the investor the ability to gain exposure to real

estate through an investment which has, on average, sufficient liquidity to gain access to that asset class cost-effectively.

Furthermore, REITs have a low correlation to other asset classes.

For example, the performance of REITs versus the S&P 500 Index,

since 1963, shows annual return differences greater than 20 percent, both positive and negative. It is also worth noting, with regard to the TSP, that REITs represent 0.55 percent of the S&P 500

Index, the benchmark tracked by the C Fund, and 8.1 percent of

the Dow Jones/Wilshire 4500 Index, the benchmark tracked by the

S Fund. As a result, TSP participants investing in these two funds

are already getting an exposure to REITs.

Mr. Chairman, BGI is the largest manager of tax-exempt REIT index funds in the world, with approximately $10 billion of assets

under management in U.S. REITs. We have a long and deep experience managing investments in this asset class. In that light,

there are a number of issues we would encourage the committee to

consider as it contemplates the inclusion of REITs in the TSP. Let

me focus on two critical ones, costs and liquidity, two subjects we

initially discussed in a letter dated January 25, 2005, to Chairman

Davis in response to his January 5th letter to us.

First, consider costs. A key question is can a REIT option be offered to TSP participants at or near the same cost as the current

investment options. There are two costs that need to be considered:

investment management fees and transaction costs. With respect to

management fees, there are many factors that potential providers

would consider in developing a fee quote for such a product, including the complexity of managing the investment strategy and their

assessment of the competitive landscape.

Obviously, we cannot comment on what other providers might

bid for this business. What we can say is that management fees for

institutional REIT index funds tend to be in the range of 10 to 15

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basis points, while fees for REIT index mutual funds are in the 25

basis point range. Given the potential size of investment by TSP

participants, we expect that management fees would likely be

lower than these levels. But they would also likely be modestly

higher than the fees currently charged for some of the existing TSP

investment options.

Transaction costs are also an important consideration given the

size of potential cash-flows and the frequency with which many

TSP participants trade. Depending on the size of the trade and

given current levels of market liquidity, we would estimate that

total transaction costs, including commissions, bid/ask spread, and

market impact, could range from 26 basis points for a $10 million

trade to 59 basis points for a $100 million trade.

Given recent index methodology changes, the expected T cost for $100 million we expect would be 40 basis points. To show the comparative illiquidity of REITs, estimated transaction costs for a $10

million trade in the C Fund benchmarked to S&P 500 is approximately 7 basis points, while a $100 million trade is approximately

9 basis points.

A second important issue is whether the REIT marketplace offers

sufficient liquidity to absorb the potentially large daily market

flows, in or out, generated by TSP participants. Our analysis of the

REIT marketplace shows that most of the REIT indices have liquidity characteristics similar to the U.S. small capitalization equity market in which the TSP’s current Dow Jones/Wilshire 4500

Index option, the S Fund, invests.

We have worked with TSP staff to establish procedures that have

cost-effectively managed cash-flows in this market since this option

was added to the plan in 2001. Assuming that one of the more liquid REIT indices were selected as the benchmark for a potential

new option, we believe that these same procedures would likely

work as effectively for a REIT index fund option.

Before concluding, I would like to make a further point. When

considering additional options to the Thrift Savings Plan, there are

many asset categories worthy of evaluation. We would suggest, as

the leadership of the TSP has in their testimony, that a broad view

of candidate asset classes be taken when determining if REITs are

the most appropriate potential addition. There are indeed others

worthy of consideration, such as emerging market equities and

commodities. Before selecting a new investment option, it would be

appropriate to analyze the full spectrum of asset class options

available to evaluate their diversification potential and return opportunities, and then select the most suitable additional options.

Mr. Chairman, I thank you for the opportunity to speak with you

today, and I look forward to answering any questions you may

have.

[The prepared statement of Ms. Schioldager follows:]

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Mr. PORTER. Thank you. We appreciate your testimony.

I would like to begin. Regarding the costs, if you could explain

how costs are incurred with REITs and what we can do to be more

conservative in those expenses, if in fact we do include these?

Ms. SCHIOLDAGER. Is that management fees or transaction costs

for trading?

Mr. PORTER. Both, please.

Ms. SCHIOLDAGER. OK. And what exactly—I am sorry. Did you

just want——

Mr. PORTER. Could you explain how the costs are incurred for investments in the REIT?

Ms. SCHIOLDAGER. OK.

Mr. PORTER. You mentioned up to 25 percent. Could you explain

those costs to us, please?

Ms. SCHIOLDAGER. Sure. Well, the two costs that I spoke to, one

are investment management fees, and those are the costs that an

investment manager would charge the Thrift Savings Plan for

managing those assets. What we see out there currently is for institutional REIT index funds, fees are somewhere in the range of

10 to 15 basis points. If you look at REIT mutual funds—and,

again, these are REIT index mutual funds—those fees are more in

the neighborhood of 25 basis points.

Now, what I would say is given the size of the TSP Fund, that

it is likely, it is possible, I should say, that those fees would be less

than that. It is also likely, given the complexity of the management

of REITs compared to the current lineup that TSP has, that the fee

would also be greater than what they are currently paying for their

other options. So that would be the first piece, the management

fee.

The second fee is the transaction costs associated with buying

and selling REITs in the marketplace. Right now all participants,

when they trade the various options, whether they are going in or

out, are paying transaction costs associated with those trades. So

the fees that I spoke to are transaction costs associated with going

to the market and completing those trades. For an S&P 500 fund,

we would expect those fees to be 7 basis points for a $10 million

trade and roughly 9 basis points for a $100 million trade.

So that gives you an idea of what the current costs are for the

S&P 500 fund. The extended market fund, which is the Wilshire

4500 Fund, the transaction costs there, just to give you another

data point, would be 18 basis points for $10 million and 23 basis

points for $100 million.

On the same magnitude, what I was looking at was a broadbased REIT index where the costs would be approximately 40 basis

points for a $100 million trade and approximately 161⁄2 basis points

for a $10 million trade. So that gives you an idea of the difference

in costs associated with REITs versus the current fund options.

Mr. PORTER. Is there a way that we can minimize those costs?

Ms. SCHIOLDAGER. Well——

Mr. PORTER. I know we are not negotiating today.

Ms. SCHIOLDAGER. Right. Thank you. The investment management fees would go out for competitive bid, so depending on what

the competitive landscape is and the competitors that are involved,

that would determine the final bid on that.

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Mr. PORTER. Thank you. I appreciate that.

Mr. Davis.

Mr. DAVIS. Thank you, Mr. Chairman.

Mr. Wechsler, Ms. Schioldager manages REITs index funds for

Barclays Global Investors, and she raised the issue as to whether

or not REITs offer sufficient liquidity to absorb the potentially

large daily market flows, in or out, generated by TSP participants.

How would you respond to that concern, and do REITs offer the liquidity to absorb the large flows in and out of the participants?

Mr. WECHSLER. Mr. Davis, it is my understanding that as far as

liquidity is concerned, there is more than sufficient liquidity to operate an index fund. Barclays does that through their exchange

traded fund on a regular basis, and it has been represented, I believe, in the past that liquidity, at least by the TSP staff, is not a

significant issue in their mind at this point. And I think the larger

issue is tied, in my understanding, to some of these transaction

costs and how they can be driven down.

Mr. DAVIS. Ms. Schioldager, do you agree that is not——

Ms. SCHIOLDAGER. Well, we looked at how—there is approximately $1 billion worth of REITs that change hands every day, so

that gives you an idea of the marketplace for REITs. In contrast

to that, it is many billion in S&P 500 space. So they are less liquid

than you would see in the other plan options. If we were to assume,

as a starting point, that the TSP could be approximately 10 percent

of average daily volume, that would mean that we could handle up

to $100 million a day from the plan participants within the fund.

I would consider that to be on the high side in terms of what we

would be able to trade on a daily basis.

Mr. DAVIS. Dr. Ibbotson, I understand that your firm was commissioned by the National Association of Real Estate Investment

Trusts to study a REITs fund to the TSP. However, as an investment research firm, what asset classes other than REITs could you

recommend that the Board and Congress consider for the TSP, if

any?

Mr. IBBOTSON. Well, there are many asset classes that you could

consider. You could consider—I mean, things were brought up such

as alternative investments, hedge funds, commodities, energy.

These are all possibilities.

I will say that real estate is sort of the natural place to look for

the next addition because real estate is such a huge part of the

economy and, actually, not all of real estate is represented by the

stock market. REITs are, and it is understandable that you are

looking at real estate investment through REITs, because you don’t

have all these agency problems; you don’t have to worry about the

direct real estate and you don’t have to worry about who is pocketing what. It is a much more straightforward investment to invest

in REITs.

So real estate is a natural place to go as a next category, but

there is a myriad of categories, and many of them were brought up.

I think it would be reasonable to look at the whole set of categories.

Mr. DAVIS. Do you have specific knowledge of TSP participants’

investment behavior?

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Mr. IBBOTSON. I am not an investor in TSP, and I have not managed any TSP funds, so I have no direct knowledge of the participants other than general knowledge of who they are.

Mr. DAVIS. Ms. Schioldager, are there other asset classes aside

from REITs that you would consider worth reviewing by the Board.

Ms. SCHIOLDAGER. Yes, I think there are. A couple of them I

mentioned in my statement. I think emerging markets would be

worthwhile looking at; I would also add commodities and TIPS as

possible other investment options when looking at what else the

TSP could add in terms of their lineup.

Mr. DAVIS. Thank you very much, Mr. Chairman.

Mr. PORTER. Thank you.

Congresswoman.

Ms. NORTON. Thank you, Mr. Chairman.

Mr. Wechsler, you don’t have any objection, do you, to their looking at the whole universe of funds in order to decide whether any

funds should be added, REIT among them?

Mr. WECHSLER. I have no objection whatsoever. In fact, I would

concur with Ms. Schioldager’s expression of some of the other areas

worth looking at.

Ms. NORTON. That, it seems to me, was the best point the prior

panel made, that if you are going to do it, look at all your options

before jumping, even though this option looks particularly attractive now.

Mr. Wechsler, during questioning we brought out the rather

minute investment in REITs now. I wasn’t able to determine why

that was the case, given the returns, long-term and short-term. I

wonder whether you have any hypothesis about that, No. 1? And,

No. 2, whether TSP might accomplish something close to what you

advocate simply by increasing the percentage of investment in

REITs among the funds they already have?

Mr. WECHSLER. I will answer the two parts you presented. I see

there is one reason why the Thrift Savings Plan participants today

have, on a relative basis, such a small exposure to real estate,

given its size in the economy, and that is because commercial real

estate investment is significantly under-represented through the

stock market.

So you are not capturing that part of our economy, that part of

our productivity, that part of our services when you invest solely

in the stock market. But for a plan like the TSP, a low-cost index

plan, the way you will capture real estate, and the only way you

can capture real estate consistent with the other five options, is

through an index fund based on publicly traded equity REITs

today.

That is why we are here. That is why we are talking about it,

because, as you heard in my testimony, large institutional investors routinely allocate 10 percent, 8 percent, 7 percent to real estate. There is no earthly way possible you can do that through the

TSP today unless you vastly over-allocate to the S Fund. And even

if you did you wouldn’t get there. As you see in exhibit 13 of my

written statement, you would have to have taken 80 percent allocation to the S Fund to have a 5 percent allocation to real estate. No

one would recommend that.

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Ms. NORTON. Ms. Schioldager, it seems to me that is a very important point that Mr. Wechsler has just made. What do you say

to the point he has just made about what looks to be the inability

of the TSP to capture the growth in real estate, given the way it

is now structured, except by going into REITs?

Ms. SCHIOLDAGER. I believe that is a true statement. What Mr.

Wechsler is saying is that the real estate market as a whole is

roughly a $4 to $10 trillion market, depending on what you include

in that calculation. So if you include governmental land, for instance, it is a much larger number. What is available to invest in

the public market through REITs is about $250 billion. So you can’t

capture, in the current TSP lineup, a 10 percent allocation to

REITs or to real estate through purchasing REITs. That is an accurate statement.

The question of what is the appropriate allocation to REITs I

think is a completely different question. My experience has been

that defined benefit plans typically hold somewhere in the neighborhood of 4 to 5 percent in a real estate allocation, not the 7 to

10 percent that Mr. Wechsler has spoken to.

Ms. NORTON. He is saying you couldn’t even hold that.

Aren’t you saying you couldn’t even hold that in TSP?

Mr. WECHSLER. What I am saying is the only way you could hold

it, no one would advise you to do under the current plan lineup.

And I would agree with Ms. Schioldager’s comment that, on average, traditional pension plans generally have an allocation of plus

or minus 5 percent.

But some of the larger plans I have cited, such as CalPERS in

California, such as General Motors and others, some of the larger

have had traditionally and have larger allocations to real estate for

all the reasons I talked about in my statement, which is the significant income overtime, the price appreciation overtime that more

than keeps pace with inflation, and the low correlation of real estate with other stocks and bonds. And those are very significant investment attributes that few other asset classes provide, and it is

provided to the public markets by REITs representing real estate,

which is what——

Ms. NORTON. Well, one of the things I hope this study brings out

is, in addition to whether or not REITs is the best among several

possible expansions, whether or not there is any increase beyond

the less than 1 percent in REITs that would be consistent with

even the present structure of TSP. That is very bothersome, that

we are unable to take hold of real estate in any appreciable way.

I have to ask you, though, Mr. Wechsler, is this the right time

to be talking about—would a prudent TSP be looking—let us assume the following scenario, that for the first time you could go

into real estate and you look at what has happened to real estate,

because everything else is you know where. Real estate is one of

the few growth opportunities that has not seemed to dissolve under

us, and that leads many to believe that real estate is, if anything,

overpriced.

And watch out, I live in Washington, DC. That being the case,

even if this is done or even if this proves prudent to do at some

point, would this not be perhaps the time to pass and do it a little

later?

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Mr. WECHSLER. There is no time like the present generally in life

to do things, and it seems to me, as was indicated earlier, it has

been many, many years since the Thrift Savings Plan added new

options. There are only five options today, one of which is——

Ms. NORTON. Mr. Wechsler, I am talking about the price of adding options on top of the transaction costs. Very specifically, my

question is isn’t real estate overpriced everywhere you look, in

large part because everything else has gone—I am trying to think

of a polite word for what has happened to everything else, but

surely you know what I mean. And I am simply saying one of the

things that surely a prudent fund would have to watch out for is

when is the best time to do this, and I don’t think that you mean

it when you say there is no time like the present, because you don’t

mean that for each and every investment you would make. There

are some you wouldn’t make and there are some you would make

now.

Mr. WECHSLER. And what we advocate and I believe, and I think

you have heard it not only from this panel, from Chairman Saul

and Mr. Amelio as well, is that diversification is the object here,

to provide Federal workers with the ability to diversify their investment portfolios for retirement savings. And we are talking about a

program that is supplemental to a pension and Social Security, and

can withstand and should benefit from additional choices and asset

classes such as real estate.

And I think it is important to distinguish between the singlefamily housing market and the commercial real estate market.

Both have done well over recent years, but we are not resting our

case on the performance of the last 1 year, 3 years, 5 years. As I

think the chairman pointed out earlier, the track record is strong

for a decade, for 20 years, for 30 years.

Ms. NORTON. Mr. Wechsler, that is a fair point. That is a fair

point, and I take your point.

Let me ask you one more question, and that is, goodness, Ms.

Schioldager’s testimony about this huge difference in basis points

between the transaction costs. These are not just little differences,

59 basis points, 9 basis points. They are huge. There was testimony

without this kind of particularity in the last panel that would make

anyone stop, that, hey, this is a different kind of investment. There

is something different here. I would like you to speak to the difference and how you respond to such huge transaction costs, very

much larger than anything TSP has ever contemplated before.

Mr. WECHSLER. I think it is a very good question, and I would

respond in two parts. The first part is I believe—and I am not the

expert and Ms. Schioldager is the expert on this—but the reason

the transaction costs, until further determined, looks somewhat

higher than the other funds is because we are talking about a narrower basket.

We have been talking about five baskets, now possibly having a

sixth. The plan testified earlier they may want to look at multiple

additions or slicing and dicing the current options into more by

slimming some of them down. It seems to me that part of the issue

here is the number of securities in the basket that are being traded, so it is a narrower base in terms of the transaction costs and

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the way the market operates to withstand that. And I am sure Ms.

Schioldager will——

Ms. NORTON. Mr. Wechsler, I am not getting it. It sounds to me

to be something structurally different between the kinds of investments, very traditional investments that TSP makes and real estate. Perhaps Ms. Schioldager would add to what you have said to

clarify.

Mr. WECHSLER. I would just want to complete, and then I am

very eager to hear what she has to say. But they are not structurally different. These are publicly traded companies; they were

equity securities, the same as in the S and C Fund. And what is

important to note when we consider cost is also benefit.

So you cannot only look at the transaction costs. If it is somewhat higher, what benefit is added by having this option? And I

think what our testimony shows is that over long periods of time

the added return in combination with the lower volatility and the

low correlation with the other categories brings a benefit to the

portfolio that is well worth any marginal additional costs.

Ms. NORTON. Now, Ms. Schioldager, just based on what the figures show, which is real estate has done better over the long-term,

I am sure, taking into account—please correct me if I am wrong—

what are the transaction costs? I mean, when one looks at those

figures that the panel had and that the chairman had, and those

figures are at least comparable and, in fact, better, does that take

into account transaction costs?

Mr. SAUL. Can I comment on that? Because I think you are talking about my figures here.

The NAREIT figures are a cap-weighted index, there are no

transaction costs in there. However, the transaction costs, although

they are higher on the REITs than they are on, say, the S Fund

or the C Fund, these are index funds, and you have to buy them

on the way in and you have to buy and sell some to take care of

some cash inflows and outflows.

But, for the most part, the transaction costs are a one-time occurrence; they occur when you go in. And since you are not trading

a very high percentage of the portfolio—and perhaps Ms.

Schioldager can address that—but since the portfolio is not heavily

traded, the transaction costs are actually the smaller part of the

fee, compared to, say, the management fee that she was also talking about.

Ms. NORTON. Ms. Schioldager.

Ms. SCHIOLDAGER. The transaction costs that I spoke to were

based on the MSREIT Index, which is an index that holds about

120 securities. Remember that the REITs that are available in the

public market are just over 200 to 250 REITs available in the market, comparing that to the broader U.S. equity market, where you

have 5,000 securities that are available. So it is a very small subset

of the U.S. equity market.

The transaction costs are more expensive simply because of the

liquidity associated with REITs. Most REITs are small-cap and

mid-cap stocks, so, given that, the liquidity associated with smallcap stocks mean that you pay more when you are buying them. It

is the case that the transaction costs are only occurred [sic] at the

time that you purchase a fund, so this isn’t—you know, if you were

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to purchase once and you are a long-term holder, that is one transaction cost that is incurred, and there are no additional transaction

costs. But if you are buying and selling the fund, that is what you

would expect to pay each time there is a purchase or a sale.

Ms. NORTON. Thank you very much, Mr. Chairman.

Mr. PORTER. Mr. Van Hollen.

Mr. VAN HOLLEN. Thank you, Mr. Chairman.

I just want to pursue the issue of what the trend is in the private

sector, especially with respect to large employers, because my understanding is that the trend is toward allowing employees to have

a REIT specific option within the portfolio and that is especially

true among some of the largest employers. Could you just all respond to that so we can get the facts on the table?

Mr. WECHSLER. I would say that as far as the defined benefit

world, the traditional pension plans out there, they have long invested in real estate, and increasingly the trend is that part of

their real estate investment is taking place in REITs, in some cases

all, in some cases part.

As far as 401(k) plans, which have been a newer addition, relatively speaking, on the retirement savings playing field, we have

begun to see a substantial up-tick in the number of plans that have

a distinct real estate option for their employees, utilizing REITs

generally, and that has, in the last, I would say, 4 or 5 or 6 years,

tripled or quadrupled percentage-wise. It is a significant upward

trend.

Mr. VAN HOLLEN. Any other comments on that?

Ms. SCHIOLDAGER. The only thing, I would agree that most defined benefit plans do have a real estate allocation. Many of them

gain their real estate allocation through direct access to real estate,

so they are buying individual properties. Smaller defined benefit

plans are utilizing REITs for their access to real estate. In terms

of defined contribution, the statistics that I have show on that one

in eight defined contribution plans have a real estate or a REIT option in their lineup of funds.

Mr. VAN HOLLEN. Do you know what the trend is, though? Has

it been increasing?

Ms. SCHIOLDAGER. It is increasing.

Mr. VAN HOLLEN. And is that true especially among some of the

larger employers?

Ms. SCHIOLDAGER. Absolutely.

Mr. VAN HOLLEN. The other question I had is on the issue of taking a time to look at various new investment options among the

TSP, and whether or not the REIT option can be distinguished

from others because it is under-represented in the stock market

and the other options, the plans that we are talking about. Is that

something that distinguishes the REIT option from some of the

other investment proposals that we might be looking at, or would

they also be things that are under-represented?

Ms. SCHIOLDAGER. The other investment proposals that I spoke

to in terms of emerging markets, commodities, and TIPS, are not

represented in the current lineup of funds; so, whereas you are getting some real estate exposure through both the S&P 500 Fund

and the Wilshire 4500 Fund, you are not getting exposure to commodities or emerging markets in any of the plan options.

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Mr. VAN HOLLEN. In any of the options.

Ms. SCHIOLDAGER. That is correct.

Mr. WECHSLER. But, Mr. Van Hollen, I think part of the thrust

of your question was the broader economy, and whether the stock

market and the bond market adequately reflects other aspects of

the economy. And I think it is fair to say that the commercial real

estate sector of the economy is probably the last major sector that

has been moving into the public capital markets, both in terms of

debt and equity. And that has happened over the last few decades

in a very significant manner, but there is still much more to be

done.

So I think you would be hard-pressed to find in the public capital

markets another sector of the economy that is under-represented in

the public markets the way commercial real estate is.

Mr. VAN HOLLEN. Well, that is why I asked to the extent that

the real estate portion.

Mr. WECHSLER. Which, by the way, is why, for many years, as

Ms. Schioldager pointed out, defined benefit plans have directly

purchased real estate. However, that is not a solution for the Thrift

Savings Plan. I don’t think Congress will be having it directly by

office buildings and shopping malls around the country, only indirectly, hopefully, through REITs.

Mr. VAN HOLLEN. Thank you.

Thank you, Mr. Chairman.

Mr. PORTER. Thank you very much. That will conclude the testimony today. We sure appreciate your being here, all those

folks——

Ms. NORTON. Mr. Chairman, could I ask one more question?

Mr. PORTER. Yes, you can.

Ms. NORTON. There is a concern among employees and there was

a concern with the Board that people fall away given increased

complexity, and that is one of reasons they want to just keep it

simple, keep it simple. Particularly given the testimony we have

just heard about the difference in basis points between the two

kinds of funds on the down side, and on the upside, if I may simply

refer to Mr. Wechsler’s testimony that REIT stock returns combine

the growth characteristics of other stocks and the income characteristics of bonds, there is something to that, I think. He also talks

about the low volatility.

There is every reason to want to capture some of that, frankly,

conservatism for Federal employees. I wonder if a fund like this or

similar funds, given the huge difference in transaction costs, which

would give me some pause in simply saying to employees which do

you want to invest in, here is REITs and then here are all the rest

of them. Would you think it appropriate to red flag transaction

costs? I am sure people are told about transaction costs.

But when you have this kind of difference in transaction costs,

and somebody looks and sees the return on real estate or lives in

a city like Mr. Davis and I live in, where they just think real estate

is going to go through the roof and be this way forever, don’t you

think it would be important to alert people that the transaction

costs for this stock is considerably greater than for another stock,

and maybe we could get some of the problem on simplicity and people wondering what this is all about dealt with?

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Mr. WECHSLER. The short answer is yes, I think more education

in general about the costs and benefits of all investing is incredibly

important, and I think that Federal workers of the Thrift Savings

Plan should have full disclosure of any costs as well as the potential benefits.

Ms. NORTON. They already have that. They already have that. I

am asking a very specific question. If you are going to do something where the transaction costs are many times what people are

used to, and it is down in a footnote, I am wondering if we are

being fair to ordinary workers like me who don’t know this kind

of stuff and don’t read footnotes.

Mr. WECHSLER. What I took from Ms. Schioldager’s explanation

is that the transaction costs for REIT stocks were comparable to

small and mid-cap stocks, and that certainly should be disclosed.

Ms. NORTON. Ms. Schioldager.

Ms. SCHIOLDAGER. I would agree with that, and I would say that

full disclosure is the appropriate way to educate plan participants

from the standpoint of buying a fund like this. And I would expect

that if this was added to any lineup, that there would be some type

of an educational process to inform participants about the investment in REITs and what that means, and part of that education

would include the costs associated with it.

These stocks, as I said, are small-cap and mid-cap stocks, as are

the funds in the Wilshire 4500 Fund. With that, the liquidity, because of the number of stocks that are available, is still quite a bit

greater than what we see in the Wilshire 4500. So, by comparison,

in the Wilshire 4500, a $100 million trade is 23 basis points. The

number that I had quoted in my testimony was 59 basis points, although there are some structural changes in the index that we

were using that changes that to 40 basis points. So it still is quite

a bit more expensive than what we see in the 4500 Fund.

Ms. NORTON. Does the average person think about the basis

points when exercising her option to go from one fund to another,

as far as you know?

Ms. SCHIOLDAGER. I wouldn’t be able to comment on what plan

participants are looking at. I certainly do.

Ms. NORTON. I hope you do.

Mr. Wechsler.

Mr. WECHSLER. I just want to clarify one thing that would be

helpful, not tied to the transaction costs, but to the other fees

which have been discussed today. If my understanding is correct—

and Mr. Ibbotson can correct me if not—but the work that we have

done in this and that Ibbotson Associates has done has assumed

higher fees because they were modeled on what is available out

there publicly, although the testimony today has been that the

management fees would be possibly only slightly higher than the

other options.

But the numbers that we have presented to you today already

factor in somewhat higher costs. So notwithstanding the higher

costs, we think the benefits are still there, which is why I responded earlier to you, Ms. Norton, on not only the costs, but you

have to look at the benefit.

And we think even at a little higher cost, the benefits are documentable and are the type of choice that Federal workers, as well

111

as workers in 401(k) plans generally, should have in terms of permitting them to include a meaningful allocation to commercial real

estate in a diversified investment portfolio over a long period of

time.

Ms. NORTON. There are very substantial benefits here, including

the lack of volatility after the stock market volatility I have seen,

and it is certainly true you cannot get something for nothing. If you

want return on your investment, you better understand how this

operates; and within TSP I would expect it to operate conservatively and to give back a considerable sum.

I think we should be interested in capturing what the real estate

market has to offer. I am concerned about this notion of simplicity.

I know, frankly, that I don’t ask my investment advisor about

transaction costs. I trust her; I know her. I go buy the stock.

So I just want to say that the characteristics that Mr. Wechsler

points out in his testimony are very attractive. In a market economy, you simply have to look at those kinds of characteristics:

strong returns, low volatility, low correlation with returns to other

assets. That is something one would want to look at in a conservative fund.

At the same time, we in the Government would have to be very

concerned. I would think it a tragedy if people began to fall away

from TSP because they say, OK, now you have me, I don’t quite

know what to do.

And one of the things it seems to me we would have to do is to

pay attention. The Advisory Committee also indicated that they

had compunctions about moving forward now. I am sure they

haven’t heard all we have heard, but they do talk about simplicity.

The Board talks about people falling away. Terrible thing to fall

away from, since the Government puts its own money in as well.

I think perhaps there is a way to do this. If you are making a

change that is very different, at least I think different from what

you have done before in basis points, I think you would have to

find some way to more than ‘‘educate’’ people. I think you would

have to do something to warn people.

In any case, I will look forward to the work that is being done,

work that you say, Mr. Wechsler, you have no opposition to, that

would look at the entire range of options and then look at whether,

given the range, this should be the one or if any ones should come

forward consistent with the kind of fund we are trying to have here

in the Government.

Thank you very much, Mr. Chairman.

Mr. PORTER. Again, I thank you all very much for being here and

for your testimony. Very lively debate and discussion. I think it has

elevated an additional option for Federal employees, and I would

not say that this discussion will end only on this particular option.

I think that we should, as we move forward, look at some of the

other plans that were mentioned today. And if there is one thing

that has been consistent throughout the testimony is that the

REITs have had a very strong return, and it is something we

should give very strong consideration to. I appreciate everyone

being here. Thank you all very much.

Mr. WECHSLER. Thank you.

Mr. IBBOTSON. Thank you.

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[Whereupon, at 4:19 p.m., the subcommittee was adjourned.]

[The prepared statement of Hon. Elijah E. Cummings and additional information submitted for the hearing record follows:]

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